I am going to look at the US dollar action technically first, then dive in to fundamental and sentimental drivers, and predictions….vis-a-vis the Trump economy.
US dollar futures can seem erratic in the short term, but over two years, the chart has formed some very neat technical patterns.
The breakout from the consolidation within the descending wedge started in October, a month before the US elections.
It came within pennies of the top of the channel, before falling, with stock indices, on news of the Hillary FBI investigation. Then on election news, like stock futures, it fell for that very neat retest of the breakout, before exploding up, to break out of the wedge, and double top with the 2015 top, on a chart adjusted for contract changes.
What happens to the dollar has a lot of implication for commodities, and economies.
Before considering the sentiment and fundamentals driving this news, and guessing what is to come, let’s zoom out, and look at where we are on a 20 year, non-adjusted chart.
When not adjusted for contract changes, we have already broken above the 2015 high.
This move has been discussed in earlier dollar analysis blogs. We have been replaying the 1997-2000 range. And now we are approaching the 61.8 % fib of the 20 year down move, and the top, roughly, of that 20 year old range.
That level is likely to hold. But given the scale of what we are witnessing, a sloppy turn around would not be surprising. Sloppy in terms of that exact 61.8 level, however, could still be neat in other technical ways. For instance, look at the 104.34 level. And look how that 92 level held below.
So it would be unsurprising to see a rapid spike to 104.34 ish, then a quick failure.
In the short term, it would also not be surprising to see a pullback from the current level, since traders regard both the price adjusted charts, as well as the non-adjusted chart we’ve been using for the macro picture.
Double tops and poor highs
In trading my first understanding was that a double touch of a level was a “poor high” or “poor low,” meaning price was likely to exceed that level at some point.
Lately, I’ve also gotten more comfortable trading against double touches, with sufficient time between them.
So that, from here, a pullback, a fall, in the dollar, would make sense. Then it is likely to gather, for another run at this level.
Then, when the level that has been double touched is exceeded, if there is “excess,” which means a quick turn-around, which usually leaves a tail, on a candle stick chart, then there is a case for a prolonged run in the other direction.
Ironically, since futures have the two charts, adjusted for contract changes, and absolute price, the current dollar level has both conditions at this price point.
Fundamentals and Sentiment
What is driving this move? And what is likely to happen, in the near term, and long run?
With the Trump election, markets have become very optimistic about the US business climate.
What this chart shows people believe, or believe most people will believe, is that Trump’s US will see increased growth in GDP and jobs, leading to the US Fed raising rates.
Typically, when the Fed raises rates, less people take loans, and more loans default, which causes the money supply to contract, which causes deflation, and therefore a strengthening dollar, which is what this chart shows…shows that markets expect of the future.
Ironically, in the media, there has been pundit speculation, that the US economy would boom so much under Trump, that business would flourish so much, that more people would take loans, even while the Fed was raising rates, and thus, we would get inflation, even while interest rates climb, and begin to normalize.
This is a very rosy business picture. How likely is it, in reality? Does the chart give us any clues?
Firstly, the Fed has been talking about raising rates ad nauseam for years. Once in a while, they have to actually do it.
They were already expected to raise rates in December, and now the Fed Funds Futures is pricing in a 94% likelihood that this rate hike will happen. So that is probably mostly baked in to this chart and the up move.
The Actual Future
But will it continue to happen? And what about all the other predictions for the Trump economy?
So as we can see, technically, this chart is nearing a natural down turning point. The top of the 1997-2000 range, and the 61.8% fib of the down move from 2000-2008.
However, this is happening on a very large time frame. So question 1 is, how will we get to that natural pivot point? Will we pull back for several months, gather energy, and then make the move higher? Or will we just grind right up to it quickly? And what could cause the pivot?
Trump does not take office until January 20. So currently, we are getting a lot of market moves based purely on sentiment and speculation.
Once he actually takes office, it will take many months, first to see what his policies actually turn out to be, and then, how they actually begin to play out, affect the economy, and change the course of the massive US ship.
So if the Fed raises rates in December, that’s likely to be it, for a while. There is no actual change taking place right now to change the behavior of the real economy.
When those Trump changes actually do start to take shape, here are a few scenarios, which could drive a dollar action, over upcoming years, that this chart appears to suggest (namely, going a bit higher, then falling, a lot.)
These speculations are not mutually exclusive…more like ingredients in the price chart stew.
- The thing actually happens the way media pundits are fantasizing. Trump’s economy is so robust, it leads to a simultaneous serial interest rate raise, plus inflation due to more people taking loans at higher rates.
- Trump goes on a new spending spree, on infrastructure, like he has promised. This is fueled by a new borrowing boom, since he’s also lowering taxes. That way, whatever the Fed does with rates, Trump’s government circulates more currency, is a way similar, but different, from Obama QE.
- The Fed raises rates for a few sessions, but as the dollar gains strength, the adverse effect on the US economy force them to reverse, and start dropping again.
- Other countries like a strengthening dollar, so they are likely to not fight this process. Let’s focus on the Euro, since it’s 50% of what drives this dollar chart.
The EU is scheduled to end QE in March 2017, unless they announce an extension in December 2016. As they witness this strengthening dollar, they will likely be less motivated to extend QE.
That’s not the only reason. Europe has also been struggling to find ways to inject it’s QE in to the economy. EU restrictions on bond buying have already caused the ECB to do strange things, like buy corporate bonds, and break the rules, buying government treasuries. But most accounts suggest this is a constant struggle, and they are running out of ideas.
So a natural move, particularly given the dollar strength, is for Draghi to say they will not extend QE, for now.
And what happened, when the US QE stopped? It caused that giant spike in the dollar, in Autumn 2014. And corresponding fall in the Euro.
That suggest that, if EU QE is not extended, the Euro could surge up in March 2017, and the USD fall dramatically. But first, the opposite, as the currencies set up for this pivot.
As we can see, the Euro appears to be rolling over, the inverse of the giant cup formation of the dollar chart.
Where is it headed?
If we look at the same 20 year chart as the dollar, the Euro is in a different location. It has already broken through the 61.8% fib.
So the obvious technical thing to do is look for levels below.
It is too big of a pill to swallow, short term, to imagine these charts moving in to the range of the 2000-2002 excess.
So with the dollar, we’ve suggested a course correction, reversal, at approximately the 2000 level. In the Euro/USD, that corresponds to the second line in the sand, slightly under parity, about $96.
I think levels like this will be sufficiently excessive to cause mad political and central banking scrambles.
The pregnant question
Now, the real elephant in the room question.
Can Trump policies really normalize the economy enough to drive improving economic health based on natural business growth?
Markets and charts show sentiment hopes yes.
My guess: no.
For years, the whole world, all the national economies, markets, stocks, bonds, commodities, everything, has been driven by central bank actions.
All the biggest central banks have printed all the money they could, and dropped rates to zero, and lower.
And what have they gotten for their efforts? Stagflation.
Inflation not through economic growth, healthy borrowing, and growing money supply, along with rising wages, and stable standard of living, but rather through anemic inflation, while wages remain flat, for decades. So standards of living very slowly erode.
Central action has become increasingly ineffective, as the banks increase the doses of injection….similar to a drug addict becoming inured to the effects of their drug, but at the same time, feeling unable to quit, detox quickly…or very slowly taper, through a very prolonged uncomfortable phase.
Can Trump policy really wean US and the world from central bank drug money, without going through detox? Seems improbable.
Usually kicking the habit involves some form of discomfort, acute and quick, or prolonged. Politicians and the public (who doesn’t really understand the money drug) don’t like to face this pain, which has led to all the central bank policies, to avoid it, for decades.
Trump suggests we will simply time travel, to an earlier paradigm. Thus avoid the pain of detox. Markets like this idea.
South Park has illustrated this scenario with their “member berries.” It’s true, we nostalgically wish that economic reality could go back to the way it was, before we ever went on this central banking binge.
And Trump has tapped in to that wish. And if it works, great. But unlikely.
The world has changed since Reaganomics. One of the biggest changes is the vast, slow motion sea change of automation. Production is also way more globally distributed.
We can’t just go back in time, due to a few policy changes. At least, I’m doubtful.
The main change is that we’ve come to this point that central banks are maxed out. It’s historically extreme. And for the US economy and markets to act the way sentiment is hopeful it will, and central banks can start to reload, Trump’s policies would have to not only work for the US, but also, most of the rest of the world.
How can the US economy grow, under circumstances that put increased pressure on other economies, which are already struggling? (China growth appears to be robust, of course. But this has been driven by a lot of internal economic slight of hand, similar to the rest of the central bank driven economies. As automation begins to impinge on China’s production based economy, and if things like their artificial housing market collapses, China is also potentially a powder keg.)
How can business and the stock market keep growing, if consumers aren’t empowered to consume? As companies automate, and employment rates fall, the problem of distribution of the money supply grows.
This is a tough nut to crack. And since it’s a nut politicians don’t want to admit exists, political rhetoric, and actions, continue to pussy foot around the nut.
My guess is that Trump changes nothing, in the macro picture. We, in the US and globally, are still faced with a best case scenario of slow grinding growth, or flat-lining stagflation, and a worst case scenario of some exogenous event causing a “correction” to test the new paradigm.
Such a “correction,” or giant detox, is not necessarily actually the “worst case.” However, it’s the case that all the money printing and free money policies started in 2008, particularly, and also earlier after the 2000 bubble, have struggled, with decreasing efficacy, to avoid.
Broadly speaking, I think the economic story in upcoming years will have to increasingly grapple with deep, systemic changes, in order to accommodate automation, and ever growing unemployment.
This process seems unlikely to me to go smoothly.