Topline
Financial markets’ strong reaction to Donald Trump’s projected return to the oval office included a spike in the value of the dollar and a sharp selloff in fixed income, hinting at both investor optimism at strong economic growth and concerns about inflation.
Trump appears at a Michigan rally earlier this year.
Key Facts
The U.S. dollar index (DXY), which tracks the American currency’s exchange rate against a basket of six other developed market currencies including the euro and the Japanese yen, rose 1.8% to about $105.30 by around 8 a.m. EST, registering its highest level since early July.
And bond yields spiked with the benchmark 10-year Treasury rising 16 basis points to a four-month high of almost 4.5%, the largest daily jump in 10-year yields since April; higher bond yields point to a fixed income selloff as investors demand higher annual payouts to hold government debt.
The dollar’s rise is partially a reflection of the protectionist trade policy endorsed by Trump and the Treasury is in part a result of investors moving money into riskier assets (see the early stock market gains), but there’s also a more pessimistic reason for the movements.
“Correct or not, the market views Republican control of Washington as negative for the debt and deficits,” wrote Sevens Report founder Tom Essaye in a Wednesday note to clients, alluding to Trump’s victory and Republicans’ projected majority in the Senate and lead in the House race.
If this climbing debt is in fact the case, coupled with concerns about the impact on goods’ prices due to tariffs, inflation could remain elevated for longer than previously expected, which in turn would likely cause the Federal Reserve to pump the brakes on its interest rate cutting cycle kicked off in September, with optimism about robust economic growth under Trump similarly pushing out monetary policy expectations, as stimulatory rate cuts are less necessary with strong economic conditions.
So, lessened rate cut expectations push up bond yields as traders price in interest rate cuts closer to today’s 4.75% to 5% in the medium and long run, and higher expected rates simultaneously drive up the value of the dollar as the likelihood of cheap borrowing costs in low-rate environments decreases.
Surprising Fact
Wednesday is on pace to be the largest daily percentage jump in the DXY since June 2016, when British citizens voted to leave the European Union.
Tangent
Higher yields may flash red for inflation expectations, but perhaps the most common investment hedging against inflation indicated the opposite. Spot gold prices declined 1.5% Wednesday, hitting their lowest level since mid-October.
Key Background
Wednesday’s trading session will likely be noisy as investors digest the implications of a second Trump presidency. Futures contracts for U.S. stock indexes soared in premarket trading, with the S&P 500 up more than 2%, on track to open at a record high. Last month, JPMorgan fixed income strategists named a Republican sweep scenario as the outcome most likely to drive up Treasury yields, citing research from the nonpartisan Committee for a Responsible Federal Budget which found Trump’s economic policies would drive up the national debt by $7.5 trillion.
Further Reading
