- After hitting overbought levels in the short-term time frame, the US dollar is selling off
- Chinese intervention is weakening the dollar, while news from Washington isn't helping
- Despite the healthcare debacle, Trump's odds of getting tax reforms are pretty good
Sometimes one has to wonder if financial markets react to news events, or if the market dictates the news. Last week we voiced our concerns that the dollar was starting to look overbought in the short-term, making it vulnerable to a pullback. With rising optimism for Trump’s tax reforms, positive economic data and a December rate hike priced in, there were few signs of an imminent pullback. Yet the dollar has underperformed this week, and we downgraded our short-term outlook on the currency to neutral yesterday.
Strong push for stability ahead of 19th National Congress
Looking at various dollar pairs, the biggest move has been in the offshore Chinese yuan. USD/CNH has weakened from 6.65 earlier this week down to 6.57 currently, which represents a 1%+ move in the yuan in less than two days. Previously, the yuan was looking oversold as USD/CNH moved from its recent low below 6.50 up to 6.67. After adjusting the mechanism by which the People’s Bank of China sets exchange rates earlier this year, the country has gained much more leeway over the direction of the currency.
The message being sent this week from China is fairly clear: ahead of the 19th National Congress of the Communist Party (scheduled for October 18), stability is paramount and the PBoC is ready to intervene in the market in order to maintain control. As the PBoC intervenes in the foreign exchange market, selling dollars in exchange for yuan, the US dollar is broadly falling as a result. As we wrote yesterday, this is helping AUD strengthen against the US dollar, as well as other currencies including the euro and the Canadian dollar. Given the importance of the upcoming Party congress, the current trends look set to continue.
Tax reform reality check another headache for the buck
Looking at Trump’s quest to get tax reforms passed, this week’s news has also been concerning. Despite GOP control of Congress, tax reforms will not get through Congress if two or more Republican senators vote against the bill (assuming all Democrats and independents vote against it).
A recent article from Politico suggests that Republican Senator Rand Paul remains strongly opposed to the bill, given his wariness of substantially increasing the budget deficit. Paul previously voted against the Obamacare repeal-and-replace bill and the Graham-Cassidy plan, breaking party lines. Including Paul, other GOP senators that may choose to vote against tax reforms include John McCain, Susan Collins and Bob Corker. Given Trump’s ongoing feud with Bob Corker, concerns are growing that Trump is undermining his chances of getting tax reforms to the finish line.
Unless Trump can win support from Democrats and independents who support tax reforms, the White House appears to be struggling to win Republican support. As concerns mount that Trump may be 'ineffective' in passing bills, the US dollar is likely to continue selling off in the short-term.
There's still hope for another dollar bull market (in the longer term)
While noting that getting bills through Congress has been Trump’s biggest weakness, we have cautioned against excessive bearishness towards the current administration in the past. Trump is clearly an unconventional political leader, thus looking at voting odds purely in terms of support from the Republican party may not be the full story. Trump’s surprise deal with Democratic leaders to raise the debt ceiling points to his resourcefulness, and thus tax reforms may ultimately get passed despite today's news headlines. While a conventional perspective would suggest that the odds for tax reforms look bleak today, an outsider like Trump has little to lose by doing a deal with lawmakers outside the Republican party. There's still hope for another dollar bull market...in the longer term.