Markets have refocused on fundamentals yet are keeping one eye on the political risks. With US President Donald Trump - the lone source of market volatility - now traveling in the world’s most unstable region, even the most bullish investor is skittish.
On Wednesday (23 May), the FOMC meeting minutes will be released. The primary takeaway is that most members view the slowdown in 1Q as transitory. Members should point to the weak inflation reads as one-off factors and indicate that the strong labour market, including an upwards trend in wages, will pressure prices. In regards to the path of normalisation, we suspect this will remain unchanged with two rate hikes in 2017. While expectations for a June hike sagged slightly after the recent US political noise, we still anticipate a 25bp hike in June (another in September). Fully pricing in of June should see mild USD demand.
Finally, the most critical question is around balance sheet reduction and the lack of consensus (objective & strategy) will sideline any update. We continue to expect the balance sheet reduction strategy to be released in September with a passive and simple strategy that will involve natural roll-off (over forced selling) reducing portfolio to $2.5 trillion.
The thin calendars of Fed speakers pre-blackout in the coming weeks suggests trade will only have economic data on which to adjust June expectations. Elsewhere President Trump has sent a letter to Congress that officially starts a 90-day countdown before the US, Mexico and Canada begin the negotiation process for NAFTA. We believe the end result will be pleasing to free-trading advocates. Yet clearly there will be noise and we would position ourselves to buy CAD and MXN on dips.
By Peter Rosenstreich