Dollar Struggles as Stimulus Talk Revives Blue Wave Trades

  • The House of Representatives impeached President Trump; President-elect Biden will announce plans for the next round of fiscal stimulus today; weekly jobless claims will be of interest
  • Fed Beige Book report was suitably cautious; Fed officials continue to push back against any notions of tapering; Peru is expected to keep rates steady at 0.25%
  • Italian political turbulence continues; Germany reported stronger than expected 2020 GDP data; Japan reported stronger than expected data; China reported strong December trade data

The dollar is running into resistance as the Blue Wave comes back into focus.  DXY found some support near the 90 area but is having trouble breaking above the 90.50 area.  We continue to view this bounce as a correction and still target the February 2018 low near 88.25.  The euro continues to find support around the December 21 low near $1.2130 but feels heavy due to the Italian political drama unfolding (see below). Sterling has held up well but is having trouble breaking above the $1.37 area. USD/JPY is seeing a series of lower highs and so we continue to view any moves above the 104 area as temporary.



The House of Representatives impeached President Trump. The vote was 232-197, with all Democrats and ten Republicans in favor. It now goes to the Senate for a trial but the timing is in question. The Senate is in recess until January 19 and current Majority Leader McConnell said he will not call it back early for an emergency session. He added that both houses of Congress and the White House should instead focus on ensuring a safe inauguration and a smooth transfer of power January 20. Lastly, McConnell reportedly told his colleagues that he has not decided yet how he would vote impeachment even though other reports suggest he believes President Trump has committed impeachable offenses.

President-elect Biden will announce plans for the next round of fiscal stimulus today. No details have been leaked yet but Biden has said that “The price tag will be high. It will be in the trillions of dollars.” Initial reports suggested incoming Senate Majority Leader Schumer pressed Biden to propose more than $1.3 trln for the next round of stimulus. Subsequent reports suggest the plan could come in closer to $2 trln. Both of these numbers conform with our view that the floor will likely be around $1.5 bln and the ceiling perhaps around $2.5 trln. And these numbers don’t include a likely infrastructure bill potentially totaling $1 trln. As a result of these reports, US yields halted their retreat and the 10-year yield is back up to 1.11% after falling to 1.07% yesterday.

Biden will reportedly seek a bipartisan solution. Despite some initial grumbling from some deficit hawks, we believe moderate Republicans will support another large aid package. Of note, sources say this is just an initial package and that an even larger one will follow along with an infrastructure plan. This seems too aggressive to us but let’s take one step at a time and see how the first package shapes up. That said, the numbers being tossed around do underscore that the Blue Wave trades (higher equities, higher yields, and weaker dollar) should remain in play here in Q1.

Weekly jobless claims will be of interest.  Regular initial claims are expected at 789k vs. 787k the previous week, while regular continuing claims are expected at 5 mln vs. 5.072 the previous week. Overall, the signs point to a stabilizing labor market but it seems unlikely that job growth will resume in January.  December import/export prices will also be reported today.

The $24 bln auction of 30-year US bonds yesterday was solid. The bid to cover ratio came in at 2.47 vs. 2.48 previously, while a whopping 68.6% went to indirect bidders (foreign demand) vs. 65.9% previously. The yield came rose to 1.825% from 1.665% previously but that was to be expected. This comes after strong demand was seen for the 3- and 10-year auctions earlier in the week. The Treasury should be happy that this week’s heavy supply of UST was absorbed fairly easily. Indeed, the 10-year yield continues to drop and suggests that (for now) investors will snap up USTs whenever yields go higher.

The Fed Beige Book report was suitably cautious. It was prepared for the upcoming January 26-27 FOMC meeting and as expected, the report had a somewhat downbeat tone. It noted “Some districts noted declines in retail sales and demand for leisure and hospitality services, largely owing to the recent surge in Covid-19 cases and stricter containment measures,” However, the report noted manufacturing continued to recover across most regions. Nearly all districts reported “modest” price increases. We think this report sets the tone for another dovish hold at the January 26-27 FOMC meeting.

Fed officials continue to push back against any notions of tapering. Yesterday, Governor Brainard said asset purchases were needed for “quite some time.” Despite some talk by the regional Fed presidents, we think the Board of Governors (led by Chair Powell) are much less willing to talk about any sort of tightening right now. Vice Chair Clarida reinforced this dovish message, saying “we are not going to lift off until we get inflation at 2% for a year.” That’s pretty specific, and Harker echoed that view. Yesterday’s inflation print didn’t do anything to challenge this view. Rosengren, Bostic, Powell, and Kaplan speak today. At midnight tomorrow, the media embargo goes into effect and there will be no more speakers until Chair Powell’s post-decision press conference the afternoon of January 27.

Peru central bank is expected to keep rates steady at 0.25%.  CPI rose 2% y/y in December, right at its target.  For now, the central bank is on hold but should reaffirm its commitment to low rates.  President Sagasti said that a national lockdown was possible but would be an “extreme” measure.  It appears the focus will be on fiscal policy, with Sagasti looking at reactivating several infrastructure projects planned by former President Vizcarra.



Italian political turbulence continues. However, markets are largely fading the developments, as we think they should. Former Prime Minister Renzi said his Italia Viva party will quit the coalition. He said current Prime Minister Conte is not doing enough to tackle Italy’s problems. Though the party is holds only 30 seats, Conte relies on it to maintain his slim majority in parliament. The turmoil comes as Conte is set approve a plan to widen the budget deficit by about EUR24 bln. Renzi said he is still willing to back plans for more deficit spending and other measures to address the pandemic.

What’s next? Conte would most likely be first given a mandate by President Mattarella to try to cobble together a new coalition. If this is unsuccessful, Conte could allow someone else from his party to try to form and lead a new coalition. If this fails, a caretaker technocratic government would likely be the final effort. If that too were to fail, then fresh elections would be necessary to break the deadlock. Polls suggest that a Salvini-led center-right coalition would likely win if snap elections were held. While Renzi didn’t rule out a new government led by Conte, he said Italia Viva won’t support any coalition that includes Salvini’s League.

The risk of snap elections has increased. However, we don’t expect anything too dramatic will develop from here, at least not for the standards of Italian politics. Even if new elections take place, the odds of a market-friendly outcome are high and so we are inclined to see any spread widening as a buying opportunity. Italy’s 10-year spread to German bunds has widened some 10 bp, but only marginally more than the moves seen in Spain and Portugal.

Germany reported stronger than 2020 GDP. Full year contraction of -5.0% was reported vs. -5.2% expected and +0.6% in 2019. This implies -3.0% y/y contraction in Q4 vs. -3.9% in Q3. in q/q terms, GDP likely rose around 1.0% vs. 8.5% in Q3, as momentum slowed from the rising virus numbers. Of note, the budget deficit was equal to -4.8% of GDP vs. -6.0% expected and a 1.5% surplus in 2019. Germany went into the crisis in a strong budgetary position and that has allowed policymakers to use fiscal policy aggressively to help soften the blow to the economy.



Japan reported stronger than expected data. November core machine orders rose 1.5% m/m vs. -6.5% expected and 17.1% in October. Yesterday, December machine tool orders were reported up 8.7% y/y and was the second straight gain after a string of negative readings that started back in October 2018. December PPI was also reported and eased to -2.0% y/y from a revised -2.3% (was -2.2%) in November. Yet with lockdowns expanding, markets are bracing for Q4 gains to give way to Q1 contraction.

China reported strong December trade data. Indeed, the figures continue to show how much the country’s economy benefited from the pandemic global disruption, but also the challenge for the rebalancing ahead. Exports rose 18.1% y/y and imports rose 6.5% y/y, both figures higher than forecast. The trade surplus rose to a record $78.17 bln, up from $75.4 bln in November. China saw increased exports to all of its major trading regions, still with an emphasis on medical-related goods but also in electronic parts. The mainland economy continues to power the regional recovery, with Korea and Taiwan trade benefitting greatly.

Of note, China named Vice Minister of Commerce Yu as the ministry’s top trade negotiator. The post had been vacant for two years. Yu has extensive experience in trade negotiations and will be part of a new team under incoming Commerce Minister Wang. While President-elect Biden is likely to take a different approach to trade negotiations with China, it’s clear that mainland policymakers are prepared for tensions to continue in the coming years.

India reported December WPI.  WPI rose 1.22% y/y vs. 0.85% expected and 1.55% in November.  Yesterday, CPI came in at 4.59% y/y vs. 5.0% expected and 6.93% in November. That was the lowest since September 2019 and back within the 2-6% target range.  With price pressures clearly easing, we expect the RBI to restart the easing cycle.  Next policy meeting is February 5 and a 25 bp cut to 3.75% is likely then.