Welcome to the first quarter of the rest of your life.
Q2 marks markets’ first full quarter under President Crazy Orange Juiceman, and there’s a lot to be excited about.
Equities are still trading at absurd multiples on hopes that somehow the administration will be able to sneak its agenda by a Congress that’s ready to storm the White House, while 10Y Treasury shorts are being unwound at a frantic pace as faith in the reflation narrative dies and the only thing that kept the bottom from falling out of the long dollar trade last week was an unnamed ECB official that just happened to leak a dovish headline to Reuters.
Meanwhile, the rest of the world is incredulous. Germany has been given a past-due notice on $374 billion Berlin didn’t know it owed to NATO and apparently Trump is holding out on a handshake with Angela Merkel until the balance is paid in full. Japan is (literally) running commercials explaining how much they’ve done to grow US manufacturing jobs in an apparent effort to curry favor with a White House that is so intent on implementing a protectionist agenda that the US insisted on changing perfunctory language in the G20 communique. Mexico has no idea what the future holds, and a cabal of populist politicians hell-bent on seizing power across Europe gets braver with every day that passes without America revolting against Steve Bannon’s desk at 1600 Pennsylvania Ave.
So you know, that’s where things stand as we kick off Q2. As far as next week goes, find a short preview from Barclays below.
Overview: Stalling Trump trades
Trump trades are stalling, with little progress on the US political front. Following the impasse with the healthcare reform, the administration is shifting its efforts to regulatory and trade policy. Trump signed executive orders scrapping environmental regulations, commissioned a report on trade deficits and ordered a more strict enforcement of existing tariffs. Commerce Secretary Ross confirmed the administration will send formal notification to Congress about NAFTA renegotiations before the spring recess, and the semi-annual Treasury report on foreign-currency practices is expected by mid-April. The return of protectionist rhetoric sets the backdrop for Xi Jinping’s visit to the US on April 6-7, in which trade deficits, currency manipulation and security challenges in Asia will be discussed. With little progress on tax reform so far, enthusiasm for Trump trades is likely to keep faltering.
The main release this week is the employment report. We expect nonfarm payrolls to increase 200k; average hourly earnings to rise 0.3% m/m (2.6% y/y); and the unemployment rate to fall 0.1bp, to 4.6%. Other data prints this week should confirm solid sentiment about the economy. We expect ISM manufacturing to continue to rise in March and non-manufacturing to remain stable at a high level, and we forecast construction spending to increase 1.5% m/m in February, above the consensus. Fed speakers this week include Dudley, Harker, Lacker and Tarullo, but little monetary policy content is expected. The focus will probably be on the FOMC minutes, where we look to gauge the extent of the conversation about balance sheet reduction.
The triggering of Article 50 was met by a relatively muted market reaction. Before the start of the divorce negotiations, the parties will seek to establish their guidelines, which are likely to be tough as they look to improve their negotiating position. In the following weeks, leaders of the EU will discuss and agree on the “negotiation mandate” given to the European Council, and we expect the EU Parliament resolution this week to reflect the tough initial stance. However, we expect markets to realize that initial rhetoric will likely be significantly harsher than the potential outcomes. Lobbying efforts over the next weeks should help to bring reassessment of the market’s expectations of the negotiations, which may reflect an overestimation of the negative effect on the long-run post-Brexit equilibrium value for the currency.
The BoJ Tankan survey, ECB and FOMC minutes will be watched as markets seek clarity on future policy. In the Tankan survey, particular attention will be paid to Japanese enterprises’ outlook for inflation and business conditions. Corporate inflation expectations firmed in December, and an improvement in the inflation outlook would factor in the BoJ’s forecasts and potentially signal future monetary policy tightening. We expect the BoJ to stay put in April and increase its 10y target in Q3. The ECB account of the monetary policy meeting is in focus, as rhetoric from members of the Governing Council indicates a more dovish stance than what the market had previously assumed. The minutes should help the market reassess the expected path for monetary policy, as downside risks to core inflation later in the year should keep the ECB on hold and weigh on EUR in H2 17, in our view. Finally, the FOMC minutes should provide clarity on the extent of the discussion of balance sheet reduction.