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 Thursday 10 November 2016

Equities up, but bonds are down - PM Bulletin

 

 

Donald Trump’s election victory may have taken pundits, pollsters, bookies and investors by surprise, but the initial market reaction was exactly as predicted. Once it became clear that Mr Trump was on course to grab enough Electoral College votes to seal the presidency, global equities, stock index futures and the US dollar all tanked while precious metals soared.
   
But what then shocked many investors was the speed and magnitude of the reversal. The major US stock indices shot into positive territory soon after the US open on Wednesday. They continued to rally throughout yesterday’s session, only pulling back a touch prior to the close on mild profit-taking. For the Dow, this represented a low-to-high swing of over 1,100 points, or around 6.7%, same as for the S&P500. The rally has continued today. Both the Dow Jones Industrial Average and S&P500 have hit fresh all-time record intra-day highs and investor risk appetite looks stronger than ever.
  
Why should this be? A Trump presidency was supposed to herald a new age of US isolationism and protectionism with the tearing up of trade agreements (specifically NAFTA and TPP) and tariffs slapped on imports from China and Mexico (we’ll put aside the prospect of a Mexican Wall for now). How on earth could any of this be good for the US multinationals which make up the bulk of the major US indices?
 
The bottom-line is that investors really don’t believe that President-elect Trump will follow through on his more egregious campaign promises. This could be because they believe Trump the President will be quite different from Trump the property-developer. Or they may believe that even a Republican-led Congress will block anything that could harm international trade. At the same time, equity investors also seem convinced that huge tax cuts are coming (both corporate and personal) along with a massive raft of infrastructure spending. Finally, they have also convinced themselves that the US Federal Reserve will be less inclined to raise rates in just over a month’s time. Taken together this suggests a perfect Goldilocks scenario.
  
And they could be right. But as far as the Fed is concerned I think they’re wrong. The US central bank has spent all of this year talking up rate hikes only to duck out at the last minute. They’ve been particularly hawkish since their September meeting. If they fail to hike in December they really will lose their last wisp of credibility as they can’t even blame a post-election stock market meltdown as a reason to delay. And that’s what the bond market is telling us too. The two charts below (from CNBC) show the yield on the 10-year Treasury. It’s now back over 2% - its highest level since the beginning of this year. The second chart shows how it has spiked higher since Trump’s victory. If yields continue to push higher (meaning bond prices decline), there will be a large number of investors sitting on significant losses. Ultimately that could take some of the heat out of the equity market.

 
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Spread Co is an execution only service provider. The material on this page is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by Spread Co Ltd or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

 

Posted by David Morrison

Category: PM Bulletin


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