The Matrix man

The US president is never far from the headlines, as another one of his advisors has pleaded guilty to criminal charges, implicating the president at the same time. The Telegraph cartoon has the president, walking past a bear trap, a banana skin, a pothole and about to tread on an upturned rake, perhaps one they missed on was dodging a bullet. He does seem to have a remarkable ability, so far, to ride through these storms.

The markets also sail through these events and the possibility that the revelations could see the president face impeachment. Earlier in the year, when he was trying to force through the tax reforms, the increased risk he would leave office could have had more of an impact. As they are now in place, there is little that his presence in the Whitehouse or otherwise could do to the current state of the US economy and corporate profitability. This probably explains the limited reaction from equity markets. Some could argue his removal may reduce the threat of an increase in trade war concerns and may be a positive.

What is much more important is how investors react to any commentary from the Federal Reserve regarding their current thoughts on interest rates. Wednesday saw the release of the minutes from the last month’s meeting. Again, there was little reaction from equity and bond markets as they underpinned the probability that September will see another rate rise, and the odds remain on December for another one. The dollar rose modestly against its basket of other currencies. The US dollar has remained in a tight trading range over the past month. The lack of reaction from equity markets could further embolden the Fed.

As the US equity market reaches its peak again, what now is the debate?  The latest flash PMI data from the euro-area reinforces the view that current economic growth remains robust, despite trade war fears. This era may be as good as it gets, and economic growth may slow as monetary policy around the globe gently tightens. But that does not mean is that we are necessarily heading for an economic recession? Which is generally the cause of major corrections in equity prices. 

There have been a lot of headlines about Greece this week coming out of its 8-year bailout program. However, this is not the end of the story as its debt to GDP ratio remains at 180%, as the Greek economy has shrunk by 25% in the past few years. Any thoughts of an economic recession in Europe could put the Greek economy back where it was and talk of a return of the drachma will start again, likewise Italy and the lira. Hence the dovish tone to the minutes from the ECB on Thursday.

The Federal Reserve is trying to build some firepower for the possibility of the next economic recession, other economies such as the euro area may have to look for new weapons. One thing that might reassure equity investors, we may have reached the peak of good news, still does not feel that central bankers want to risk a global recession just yet.

Posted on August 23, 2018 .