At the beginning of this year, consensus expected a re-acceleration in US growth led by Trump tax reform and fiscal stimulus. As such, many predicted fixed income would deliver a negative return and that the USD would strengthen (hurting emerging markets). Moreover, there was a fear of inflation due to tightening labour markets.
The reality has been quite different. Economic data has consistently disappointed in the US, versus broadly improving elsewhere. Meanwhile, inflation has remained subdued everywhere. As a consequence, the US 10-year has fallen from 2.45% to 2.05% yield (despite 2 rate hikes) and the USD has lost over 10% of its value on a trade weighted basis.
Whilst equity valuations remain full, markets can now be considered to have priced out any acceleration in growth. Indeed, the outlook for monetary policy is as uncertain as it has been at any time over the last 12 months. Last week, Vice Chair Stanley Fischer tendered his resignation from the FOMC (effective mid-October, having been due to leave in 2020). He stated this was for “personal reasons” but it came less than a month after he called efforts to loosen constraints on banks “dangerous and extremely short-sighted”. There were already 3 out of 8 seats on the Board of Governors vacant and it is thought extremely unlikely that Janet Yellen will be reappointed in February (since Donald Trump openly attacked her on the campaign trail). Therefore, we will see a very different FED over the next few years. The exact mix of replacements will be significant for policy. Moreover, investors should reflect as to whether there is increasing evidence that Trump’s fractious leadership is impairing decision-making and, ultimately, growth.
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