Dollar Still Firm, Markets Still Calm Ahead of UK No Confidence Vote

  • Markets are relatively calm after UK Parliament overwhelmingly rejected Prime Minister May’s Brexit plan by a vote of 432-202
  • Opposition Labour has called for a vote of no confidence in the government today
  • There are no signs of compromise from either side with regards to the US shutdown
  • December US retail sales and business inventories reports were due out but have now been postponed
  • The Fed will still release its Beige Book today
  • Central Bank of Turkey kept rates steady, as expected; South Africa reported November retail sales

The dollar is broadly firmer against the majors ahead of the no confidence vote in UK parliament.  Sterling and Nokkie are outperforming, while the Antipodeans are underperforming.  EM currencies are mixed.  TRY and THB are outperforming, while INR and IDR are underperforming.  MSCI Asia Pacific was down 0.2%, with the Nikkei falling 0.6%.  MSCI EM is up 0.1% so far today, with the Shanghai Composite flat.  Euro Stoxx 600 is up 0.1% near midday, while US equity futures are pointing to a lower open.  The US 10-year yield is up 3 bp at 2.74%.  Commodity prices are mixed, with Brent oil down 0.2%, copper up 0.9%, and gold down 0.1%.

Markets are relatively calm after UK Parliament overwhelmingly rejected Prime Minister May’s Brexit plan by a vote of 432-202.  Now what?  As we set forth earlier this week, the likely scenarios include (but are not limited) to 1) a no deal Brexit, 2) a delay to the Article 50 date, 3) a second parliamentary vote after a renegotiation period with the EU, 4) a general election, or 5) a second Brexit referendum.  None of these scenarios are mutually exclusive.

Option 2 (delay Brexit) followed by option 3 (second parliamentary vote) seems the most palatable for markets and seems the easiest to reach.  Option 1 (no-deal Brexit) is the tail risk that everyone wants to avoid, but the odds have nonetheless risen.  Option 5 (second referendum) is the tail risk that everyone wants to see.  This has also become a little more likely, but we think the hurdle for this is still quite high.

Opposition Labour has called for a vote of no confidence in the government today.  The vote is expected to start at 7 PM London time and is widely expected to fail.  Why would any Tory or DUP MPs vote against May’s government and risk fresh elections?  This seems unlikely and we can probably cross option 4 off our list after today’s vote.  Still, there is no limit on how many times a no confidence motion can be table.

Sterling rallied after the vote on the notion that the Article 50 date will be delayed.  An amended deal would still be difficult and so even though uncertainty would go on for a longer period, we think this likely outcome is enough for markets to latch on to.  Sterling is flat on the day ahead of the no confidence vote.  We would simply warn that a relief rally is a very different animal than a change in the overall bear trend for sterling.

UK reported December CPI.  Headline rose 2.1% y/y vs. 2.1% expected, while CPIH rose 2.0% y/y vs. 2.1% expected.  Data have been soft as of late in the runup to Brexit.  Because of the heightened uncertainty across many areas, the Bank of England can do nothing except wait and see for now.  Next policy meeting is February 7, and no change is expected then.

There are no signs of compromise from either side with regards to the US shutdown.   Instead, the Trump administration is taking steps to try and blunt the negative impact of the shutdown.  Yesterday, it ordered 46,000 furloughed workers back to work without pay.  Reports suggest many of those workers will be issuing tax refunds even though the Treasury has said previously that the shutdown would prevent this.

December US retail sales and business inventories reports were due out but have now been postponed because of the government shutdown.  November TIC data was also postponed.  Instead, all we will get is December import and export prices in terms of data.  Lack of key data will make it that much harder for policymakers and markets to gauge the economic costs of the shutdown.  Suffice to say that the longer it drags on, the greater the risks to the economy.

The Fed will still release its Beige Book today.  Yesterday, we heard another chorus of Fed doves.  Voter Esther George said that it might be a good time for the Fed to pause its normalization of policy.  George added that the Fed is close to neutral and should proceed with caution.  Kaplan and Kashkari are not voters this year but also sounded the same dovish notes.  Kashkari speaks again today.  Next FOMC meeting is January 30 and markets see zero chance of a hike.  Powell press conference afterwards will be closely watched.

And it wasn’t just the Fed yesterday.  Draghi sounded extra dovish too.  He noted that “recent economic developments have been weaker than expected and uncertainties, notably related to global factors, remain prominent.”  He added that “A significant amount of monetary policy stimulus is still needed.”

Recent data and now the Draghi comments certainly cast further doubt on the ECB’s ability to hike rates after the summer.  Next ECB meeting is January 24, and it will be hard for it to maintain its balanced risk assessment given data and comments that have come out since its last meeting December 13.  However, this month is probably too soon to make any changes to its official forward guidance.

Of course, this weighed on the euro.  After posting an outside down day yesterday, the single currency has continued to weaken today.  Support near $1.14 has held for now.  A break below $1.1350 is needed to set up a test of the November 12 low near $1.1215.

Central Bank of Turkey kept rates steady, as expected.  A couple of analysts looked for a cut, but it was clearly too early, especially with the lira back under pressure.  CPI rose 20.3% y/y in December, down from the peak of 25.24% in October.  While the 3-7% target range has been rendered meaningless, we do not think the central bank can cut until we’re closer to mid-year.  Next meetings after today are March 6, April 25, and June 12.  Much will depend on how the external environment develops.

South Africa reported November retail sales.   Sales rose 3.1% y/y vs. 2.0% expected and 2.2% in October.  South African Reserve Bank meets tomorrow and is expected to keep rates steady at 6.75%.  CPI rose 5.2% y/y in November, which is still within the 3-6% target range.  If the rand remains relatively firm, then SARB is Likely to remain on hold for the time being.