Unexpected bullish turn
US-Chinese trade talks ended and optimism about the outcome sent the Chinese yuan higher and the US dollar lower yesterday afternoon. The combination of dovishness by the US Federal Reserve and trade harmony is risk-friendly and dollar-negative, even if Asian equities are threatening to run out of steam. While the USD looks to have peaked, equity valuations still look promising. In the near term, higher-level discussion is planned between China and the USA, possibly on 30-31 January. There is growing expectations that the US will suspend tariffs implemented in 2018 to give China time to announce reforms. A temporary settlement will send global sentiment higher. China’s central bank is not looking for a sharp appreciation, however, significant undervaluations in the Shanghai composite is an opportunity for investors.
Fed Chairman Jerome Powell predicts no recession in 2019 and says the Fed will be patient in interest tightening. His dovish tone supported the risk bounce and broad USD weakness. Traders shrugged off the conflict over the US federal government shutdown. As the S&P 500 nears 2600, a bullish break would signal a reversal of the recent correction.
The pound poised to drop
As a vote on the EU Withdrawal Agreement nears, Prime Minister May’s proposal looks likely to lose. Despite her efforts to wring concessions from Brussels, Members of Parliament are overwhelmingly against her Brexit option. A vote against her tomorrow will slap the pound, which recently made gains against the dollar (week-to-date: +0.95%) to 1.28 USD/GBP. We expect a sharp drop in GBP following a losing vote. What happens thereafter depends on what the EU or the UK do. For now, the divorce date of 29 March 2019 remains in place. There are rumblings that this deadline might be extended: chances are that MPs will allow an extension of Article 50, which allows Brexit in the EU Constitution, which would postpone the deadline to end-November 2020! This could allow a new referendum or a newly negotiated trade agreement, perhaps one like Norway’s. For now, it is difficult to estimate the direction of the British pound.