Monday, February 27, 2017

March-April 2017 Market Outlook: La La Land March-April 2017 Outlook: La La Land
Mon, 27 Feb 2017 11:44 AM EST

In a world where the U.K. votes itself out of Europe and where a reality TV show star is elected President of the United States it sometimes feels like we have entered La La Land. But this fanciful dream world is now reality, like it or not. The next couple of months will see the Brexit process begin and the first hundred days of the fledgling Trump administration wrap up. It remains to be seen if the populist wave that brought them to the fore will foment change in other spheres, but this atmosphere of disruption will continue to ripple across politics, trade and markets for the foreseeable future.


The imminent IPO of Snapchat’s parent company may be a perfect metaphor on this unpredictable moment in history. Snap, which is headquartered in the real La La Land (Los Angeles) rather than Silicon Valley, is attempting to take on social media giant Facebook. The company is targeting a valuation north of $20 billion which would make it the biggest tech IPO in the US since Facebook in 2012, and thus is drawing a lot of attention from capital markets. A good reception for the IPO could lead a herd of other tech ‘unicorns’ to follow suit.

A successful IPO isn’t guaranteed, however. Snap has disclosed large financial losses and relatively modest active user numbers. In fact its user base is in the same vicinity as that of Twitter – which has floundered since its own IPO three and a half years ago – leading to some unflattering comparisons between the two. Like Twitter, Snapchat may not have the critical mass or technological innovation to generate a growing advertising revenue stream. Investors may also be leery of the share structure that gives Snap’s ordinary shareholders absolutely no say in direction of the business.

Snap is expected to arrive on the market on March 2nd. A dearth of major tech IPOs and speculation that it might be the next Facebook could be enough to send shares flying, or markets may judge it as the next Twitter and let it fizzle. The latter outcome could have a chilling effect on other ‘unicorns’ like Uber and cause investors to reconsidering plowing investments into risky unlisted tech firms.


Things are also uncertain in Washington these days, as the new Administration has striven to bend the government toward President Trump’s personal style. In his first month in office, Trump seems to be patterning his agenda on his old job as a businessman and real estate developer. He has used the highest profile office in the world to leverage his fellow CEOs to gather for powwows at the White House, and they have obliged him with upbeat sound bites and announcements on their domestic investment and hiring plans. Trump's early domestic policy forays – whether its immigration restrictions, contemplating border tariffs, or constructing a border wall – all seem to focus on building barriers. The developer-in-chief appears intent on building Fortress American in the name of national security and his 'America First' doctrine.

Trump’s deliberately unorthodox and combative style won him enough support to carry the election, but it has also caused political problems. The President’s impulsive tweets have ranged from irrelevant commentary on TV ratings for ‘The Apprentice’, to a darkly disturbing declaration that several mainstream media outlets are “the enemy of the American people.” White House spokespeople have had to walk back or massage a number of the President’s inaccurate, off-the-cuff remarks about policy. The President has also been quick to claim the surge in stocks since his election – which some market watchers have dubbed the ‘Trump Rally’ – as a sign of approval for his policies (rather than market enthusiasm over one-party control in Washington). His predecessors were much more guarded about laying claim to the animal spirits of the market, and Trump may be setting himself up for taking the blame the next time stocks enter a significant correction.

On the last day of February, the President will address a joint session of Congress to discuss his budget and policy plans. Though not technically a ‘State of the Union’ address, many market participants are looking toward this major speech as a marker for progress on the Trump agenda. If by that time the Administration has not formulated more specific plans for tax reform and the overhauls of healthcare and trade policy, markets may get nervous that Trump’s rhetoric is not translating into any legislative agenda. Reconciling greater spending on the military, border security, and infrastructure with tax cuts and debt reduction may also be difficult for those that run the numbers, raising the ire of deficit hawks.


Harkening back to the age of Europe’s royal houses battling each other, the United Kingdom is about to throw up its own barrier against the continent. The Brexit is on track to begin in March and it does not appear that Parliament will stand in the way. Over the last few weeks, UK Prime Minister May has won a series of votes in the House of Commons that swatted away attempts to add various amendments that sought to sandbag the Brexit bill. As March approaches it appears that May will have a free hand to invoke Article 50 to formally initiate the up to two-year-long Brexit process.

The latest reports from London suggest that the final Brexit bill could be cleared by the Parliament in early March, and that the PM may invoke Article 50 ahead of her self-imposed deadline at the end of the month. That could provide the opportunity for European leaders to discuss the Brexit process at an EU summit (the European Council) scheduled for March 9-10. If the remaining EU members take a hard line with Britain the erosion of economic confidence that some anticipated right after the Brexit vote last June may finally take hold as Britons contemplate potentially less favorable trade agreements and large multinationals relocating their HQs out of London. Additionally, in the face of a ‘hard Brexit’, pro-EU Scottish leaders are threatening to call a fresh referendum for independence from the United Kingdom. As the decoupling process begins EU leaders will be reminded that populist movements in their own countries can’t be ignored for fear that other countries might eventually follow Britain’s lead and unravel the entire bloc.

France’s Presidential election will be the next test of populist fervor in Europe. Playing on unease about the immigrant population and recent terrorist attacks, right-wing nationalist Marine Le Pen is the lion of the French populist movement and she is making a legitimate run at the French Presidency. After the leading conventional candidate Francois Fillon was hamstrung by a nepotism scandal, polls have been showing that Le Pen and the upstart progressive party leader Emmanuel Macron will emerge from the first round vote for a head-to-head contest. In the run-off election, the polls show that Macron should handily beat Le Pen, but given the faulty polling ahead of the Brexit and the US Presidential election, the outcome can’t be certain until all of the ballots are counted. The candidates will duke it out in a televised debate on March 20, and the first round vote will be on April 23, followed by the run-off two weeks later.

The French vote is just the first in a number of elections this year across Europe, including in Holland, Italy, and Germany. The euro-skeptics are not seen winning any of these contests but their rising popularity may beenough to rattle nerves and push the euro ever closer to dollar parity.

Manchuria by the Sea

Currency issues are also central to Sino-US relations these days, but President Trump’s approach so far has been erratic. He railed against Chinese currency manipulation during his campaign, but pulled back on the rhetoric after he was elected, even as he became the first President to try and talk down the dollar. Ahead of inauguration day, Trump ruffled China’s feathers by speaking directly with the President of Taiwan and following that up by announcing that “everything is under negotiation” including the long standing ‘One China’ policy. Then on the same day last week thatPresident Trump declared China a "grand champion" of currency manipulation, Treasury Secretary Mnuchin said he had had great discussions so far with Beijing and would reserve any judgment on China policy until the Treasury’s semi-annual currency review is released in mid-April.

Even as President Trump is trying to impose his authority over the Washington bureaucracy, his Chinese counterpart is on the brink of consolidating his power to an extent not seen in decades. On March 5, the National People's Congress (NPC) convenes its annual session, spending two weeks discussing government policy objectives. Importantly, at this year’s conclave nearly half of the seats in the 25-member Politburo will open up, including five of the seven seats on the Standing Committee, the party’s top leadership. The only two Standing Committee members who are not retiring are President Xi Jinping and his right-hand man Premier Li Keqiang.

At the communist party’s Sixth Plenum last October, Xi was designated the party’s “core” leader, elevating him to a status that was not granted to his predecessor Hu Jintao. This may signal China moving away from the consensus-style leadership of recent years, giving President Xi more control in shaping the government as he sees fit. The President may use the Politburo shake up to appoint loyalists to the standing committee, consolidating his power. If he makes such a move, it could well indicate that Xi intends to extend his rule past his scheduled retirement in 2022.

March’s NPC is also the venue for announcing China’s new economic goals for the year. Reports have circulated that top economic planners have already settled on targeting GDP growth of around 6.5% for 2017. That would be less than the expected 6.7% rate in 2016, the slowest growth in a quarter century, giving the government some leeway to continue the pursuit of economic reforms while still tracking toward long term growth goals. Officials are also said to have agreed to maintain the CPI target at 3% this year. That indicates they are not deeply concerned that a rise in commodity costs that has pushed up producer price data will translate into higher consumer prices, as weak demand persists. That should give the central bank breathing room to avoid tightening policy.

Hidden Figures

An era of profound central bank stimulus has reached the beginning of the end. The Fed and other global central banks have poured massive amounts of money into quantitative easing programs and slashed rates to near or even below zero. The numbers will never be clear on how much economic suffering this historic feat of monetary engineering may have averted, but it has definitely created lasting distortions in the global economy.

But now the global economy is regaining its footing and some of the stimulus programs have begun to pull back. The Fed has raised rates for a second time and is planning several more hikes this year. Even the ECB, which is farther from its goals than the Fed, has reduced the pace of its QE program by 25% in a nod to improving conditions.

The next move toward monetary policy normalization will be another Fed rate hike, but the timing isn’t quite certain.Despite the Fed’s SEP forecast for another 75 basis points in tightening this year and Chair Yellen warning that the all meetings remain ‘live’ for rate action, Fed funds futures predict only about a 25% chance of a rate hike in March. Most forecasters see May or June as the more likely timeframe for the first rate move of 2017. It seems unlikely that after nine years monetary policy erring on the side of caution that the Fed would take this moment to tighten faster than expected.

Some argue that the anticipation of fiscal stimulus from the Trump Administration takes pressure off the Fed which has until now been the only game in town as far as stimulus goes. But Fed officials have generally stated that they are not adjusting their forecasts to account for fiscal policy changes because it is still unclear when and how Trump’s policies will shape up.

The President also has a chance to shift the policy disposition of the Fed through his appointments. Fed governor Tarullo, the Fed’s point man on banking regulation, just announced that he will step down in April, more than four years before his term was slated to end. His resignation creates a third open seat among the seven-person Fed board of governors, providing President Trump an even greater opportunity to put his stamp on the Fed. Trump plans to fill the empty seats quickly and he is likely to choose candidates that support his plans to roll back bank supervision regulations put in place by the Dodd-Frank Act.

The other impending change at the Fed to watch for is the balance sheet policy. The headline from the minutes of the February FOMC meeting was that the committee would start evaluating the future disposition of the now $4.5 trillion in assets held by the Fed. Minneapolis Fed President Kashkari recently stated that the central bank could stop balance sheet reinvestment or start tapering in the "not too distant future," while Atlanta Fed President Lockhart postulated that the balance sheet would stay above historical norms, at a minimum of $1.5-2 trillion. By all accounts the process of balance sheet reduction will be measured and take years, but the prospect of the unwinding could trigger another ‘taper tantrum’ event from markets that have become accustomed to a decade of unprecedented stimulus.

Hell or High Water

In the bilateral “deals” environment that President Trump is trying to foster, multilateral agreements are still seeing some success. Notably the production cutting accord between OPEC and many non-OPEC nations has been a rousing success so far. In the face of collapsing oil prices, these countries that depend largely on oil revenues put aside their deep political differences and reached an accord to reduce production for the first half of 2017 in a last ditch effort to revitalize energy prices.

The participants have shown discipline, announcing cutbacks that were ahead of schedule in January. The first major report from the compliance committee in late February indicated that OPEC members were hitting 90% of cutback targets, while non-OPEC contributors were at close to 60%. That has been enough to keep WTI and Brent crude futures in the mid-$50/bbl range, a comfortable level for most OPEC producers.

Assuming this level of compliance continues, the next big decision for the signatories will be whether to extend the cutbacks for another six months when the initial agreement expires at the end of June. Oil ministers are expected to discuss this prospect at a conference in March in Houston. Russia, the largest non-OPEC contributor to the agreement, has said it will decide if it should extend its commitment by April or May. So far, indications from OPEC officials have them leaning toward no extension, with signs of demand starting to catch up to supply. Meanwhile the North American rig count has surged as independent US firms have enjoyed the higher oil prices created by their foreign competitors.

28: President Trump’s address to Congress
1: German Unemployment; UK Manufacturing PMI; US Personal Income & Spending; US ISM Manufacturing PMI
2: UK Construction PMI; Japan Household Spending; China Caixin Services PMI
3: UK Services PMI; US ISM Non-manufacturing PMI; Snap IPO (tentative)

5: China National People's Congress convenes
6: US Factory Orders
7: German Factory Orders; US Trade Balance; Japan Final Q4 GDP; China Trade Balance (tentative)
8: UK Annual Budget Release; China CPI & PPI
9: ECB Policy Statement & Press Conf; China Industrial Production; EU Summit (2 days)
10: UK Manufacturing Production; UK Goods Trade Balance; US Payrolls & Unemployment

13: US JOLTS Jobs Openings
14: German ZEW Economic Sentiment; US PPI
15: UK Claimant Count & Unemployment; US CPI; US Retail Sales; FOMC Policy Statement & Conf Call; BOJ Policy Statement & Press Conf
16: Euro Zone Final CPI; BOE Policy Statement; US Housing Starts & Building Permits; US Philly Fed Manufacturing Index
17: Industrial Production & Capacity Utilization; Prelim University of Michigan Consumer Sentiment

20: French Presidential debate
21: Euro Zone Flash Manufacturing & Services PMIs; UK CPI
22: US Existing Home Sales
23: UK Retail Sales; US New Home Sales;
24: US Durable Goods Orders

27: German Ifo Business Climate
28: US Consumer Confidence
29: German Prelim CPI
30: US Final Q4 GDP; Japan Household Spending
31: German Retail Sales; German Unemployment Change; UK Current Account

2: Japan Tankan Manufacturing & Non-manufacturing Indices; China Caixin Manufacturing PMI
3: UK Manufacturing PMI; US ISM Manufacturing PMI
4: UK Construction PMI; US Trade Balance; US Factory Orders
5: UK Services PMI; US ISM Non-manufacturing PMI; FOMC Minutes; China Caixin Services PMI
6: German Factory Orders; ECB Minutes
7: UK Manufacturing Production; UK Goods Trade Balance; US Payrolls & Unemployment
8: China CPI & PPI

11: UK CPI & PPI
12: UK Claimant Count & Unemployment; China Q1 GDP; China Industrial Production; China Trade Balance (tentative)
13: BOE Credit Conditions Survey; US PPI
14: Good Friday (US market holiday); US CPI; US Retail Sales; University of Michigan Consumer Sentiment

18: German ZEW Economic Sentiment; US Housing Starts & Building Permits; US Industrial Production
19: Euro Zone Final CPI
20: Philly Fed Manufacturing Index
21: Euro Zone Flash Manufacturing & Services PMIs; UK Retail Sales; US Existing Home Sales

23: France Presidential Election (first round)
24: German Ifo Business Climate
25: US Consumer Confidence; US New Home Sales
26: BOJ Policy Statement, Outlook Report & Press Conf
27: ECB Policy Statement & Press Conf; US Durable Goods Orders; Japan Household Spending
28: German Retail Sales; UK Prelim Q1 GDP; Euro Zone Flash CPI; US Q1 Advance GDP; Chicago PMI
Late April or later: US Treasury Current Report
30: China Manufacturing & Non-manufacturing PMIs
1: UK Manufacturing PMI; US Personal Spending; US ISM Manufacturing PMI; China Caixin Manufacturing PMI
2: German Unemployment; UK Construction PMI
3: UK Services PMI; Euro Zone Flash Q1 GDP; US ISM Non-Manufacturing PMI; FOMC Policy Statement; China Caixin Services PMI
4: US Nonfarm Productivity; US Trade Balance: US Factory Orders
5: US Payrolls & Unemployment

7 May : France Run-off Election