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Wall Street eclipses all-time high, dollar gets a black eye

19 August 2020

There’s no stopping the US equity freight train. The S&P 500 erased all its losses since the pandemic rocked global markets to capture new records, pulling off its quickest ever return to new highs after entering a bear market. The primary driver of this rapid recovery is the avalanche of liquidity that’s been unleashed by the Fed and other central banks, which has virtually made bonds uninvestable, forcing investors looking for any returns to rotate into equities.

In the smaller picture, the steady slowdown in new US virus cases may have played a role as well, alongside encouraging housing data showing that homebuilding is roaring back and fresh signals from Congress that a stimulus compromise may be looming.

Democratic House Speaker Nancy Pelosi seems to have blinked in this political standoff, following reports that she is willing to meet the Republicans “halfway” on the size of the package. Even after this concession, the two sides would still be far apart on the dimensions of the bill, but the fact that the Democrats are watering down their demands is encouraging in itself. It increases the odds that something will get done before the election season goes into full swing, which would make any dealmaking all the more difficult.

Overall, that the S&P 500 can capture new highs with so many unknowns flying around is a very positive sign, though some caution is still warranted, as this is not a ‘clean break’ yet. The index only rose 0.3% and seems to have met fierce resistance, which likely reflects some nerves about how far and how quickly markets have come.

No love for the US dollar

In the currency spectrum, the US dollar resumed its downfall to touch fresh two-year lows against a basket of major currencies. There was no single catalyst to pin this move on other than the broader risk-on atmosphere suppressing demand for defensive plays.

For now, it’s difficult to argue with the trend. There’s simply no love for the dollar out there, and only a serious ‘risk off’ episode could change that. Looking ahead though, the ‘short dollar’ trade looks increasingly crowded.

US virus numbers are moving in the right direction, in contrast to Europe, where cases are spiking again. If this virus trend reversal continues, with America slowing down and Europe accelerating, that could derail the hypothesis that Europe will recover faster. Coupled with record long speculative positioning on the euro, this could set the stage for a substantial correction in euro/dollar.

Sterling shines bright

A sinking US dollar naturally raises all other boats in the FX market, yet no currency has taken advantage of the dollar’s troubles more than the pound. At first, sterling’s rally appeared nothing more than a function of a weaker dollar and stronger risk appetite, but with the pound outperforming even the mighty euro yesterday, something else is at play.

It might come down to the improving mood in the Brexit talks leading investors to trim prior short positions, as well as fading speculation that the Bank of England will cut rates to negative. Economic data continue to improve, and today’s jump in core inflation makes it that much more difficult for the Bank to go down this path.

As for today, all eyes will be on the FOMC minutes at 18:00 GMT, as well as Canada’s inflation stats for July. There’s also an OPEC ministerial meeting, but not much is expected.



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