Trade talks, Fed minutes and can the pound fall further?

It’s been another packed week for financial markets. Although volatility has calmed down since last week, there remains enough uncertainty out there to spook risk appetite without much notice. For instance, earlier this week the S&P 500 fell sharply on the back of reports that the US was going to ban more Chinese companies from operating in the US. However, as we move into the latter part of the week optimism is high that China and the US will reach a trade deal, and this has been reflected in stronger global stock markets. 

China and the US: will they/ won’t they? 

US stocks rose nearly 1% after reports in the Chinese press suggested that China was eager to reach a “partial” trade deal with the US. The S&P 500 jumped to its highest level this week – above 2,928, and there were also broad-based gains for European stocks before they closed for the day, including a 1% rise for the German Dax. However, the S&P 500 dropped 10 points before the close, on the back of contradictory reports saying that Chinese officials were trying to dampen down expectations of a deal. 10 points may not seem like much, but when you trade on margin, every point counts, thus the next couple of days could be full of trading pitfalls for those trying to buy or sell stocks on the back of the US/ China trade deal talks. 

Three reasons why President Trump needs to strike a trade deal with China 

The truth is, we have no idea which way this will go. The US and China have been engaged in this spat for so long that it seems unlikely two days of meetings will end up with a deal agreed to by both sides. While some had suggested that the Trump administration would only agree to a deal with China if the US economy slumped or the stock market collapsed, we aren’t so sure. We believe that there is growing pressure on President Trump to reach a trade deal with China and put the trade spat behind him for three reasons: 

1, There are genuine concerns about the global economy, and the US is not immune to a downturn. Jobs growth is slowing, and manufacturing may already be in contraction territory if you believe the ISM reports. The Federal Reserve has recently highlighted the rising downside risks to the US economy in the coming year and pointed out that business investment and exports were suffering from the impasse in the US/ China trade negotiation.

2, The stock market may not have slumped, however it is not going anywhere fast. In the past few months, traders have sold any rallies above 3,000 in the S&P 500, and for the past month it has traded in a painful 120-point range. The fact that traders are not willing to buy US stocks with gusto this quarter makes them extremely vulnerable to a sharp sell-off, especially if the US economic back drop deteriorates and Q3 earnings season delivers some negative corporate earnings news. Thus, a trade deal with China is necessary if President Trump wants to turbo charge US stocks in the coming months, and help to boost the US economy, while taking the credit for it! 

 3, The Presidential election in 2020. While Donald Trump will not want to be seen as letting the Chinese off the hook, he must realise the political danger of not striking a compromise with the Chinese, and scrapping trade tariffs and allowing global trade to flow freely. The economy and the stock market could suffer if he doesn’t agree to a deal soon, and that may not play to his advantage in an election year.  

Thus, we believe that a deal could be in sight, however, we don’t expect the news-flow to be helpful in the coming days, as both sides claim the upper hand. This could make trading conditions tricky, and we urge the use of sound risk management techniques if you plan to trade risk sensitive assets like global stock indices in the coming days. 

Why the pound hasn’t slumped, yet 

Trading tricky news-flow situations is also relevant for trading the pound this week. Reports have circulated that the EU won’t accept the UK’s blueprint for a trade deal, however, reports have also suggested that a deal is still possible. The truth is probably somewhere in the middle. The EU has form when it comes to finding solutions to major political problems in the 11thhour, we expect Brexit to be no different. We believe that the FX market is also thinking along the same lines that we have been. While the pound has fallen this week, it hasn’t slumped to fresh lows as one might expect when a “no deal” Brexit is bandied about 3 weeks before we are expected to leave the EU. The path of least resistance remains lower for the pound, and $1.2550, the high reached on 25thSeptember, looks like it will be difficult to retrace. Whether or not the pound falls into a cycle of continuous selling pressure from now until we Brexit, could be dependent on how the pound reacts in the next few days. There were willing buyers when GBP/USD slipped below $1.20 back in early September, and those brave people could come back to buy the pound again in the coming days. The fact that Parliament is sitting this Saturday should give us some clues on Sunday as to what the next few weeks may look like, and if the PM will be forced to request another Brexit extension, thus avoiding the 31stOctober cliff edge. Either way, the pound is likely to be driven either higher or lower by Brexit in the coming days. 

Is the euro back in vogue?

Greece is in the news for all of the right reasons this week. It managed to sell 3-month debt at a negative yield, which is a ringing endorsement of how far the market believes that Greece has transformed its economy in the last 10 years. Considering Greece’s economy is expected to grow by 2.8% next year, significantly higher than the UK’s growth rate, it is no wonder that Greece has joined the growing number of Eurozone countries issuing debt with a negative yield. This news along with a general move out of safe havens including the US dollar, has helped to halt the euro’s decline. EUR/USD attempted to test $1.10 earlier on Wednesday. If we get a US/China trade breakthrough, we believe that this pair could crack the $1.10 resistance level as we move into next week. Although there are risks to the Eurozone outlook, we are warming to the euro, and will discuss why in the coming weeks.