Morning Notes — Dollar Forecast

The S&P 500 is up +44% since the March 23 low with the z-scores on some momentum indicators nearing 1.5σ. The SPX is ‘taking a break’ today ahead of tomorrow’s FOMC meeting. Concerns about messaging risk focused on a taper-tantrum-like bond yield spike seem misplaced. Instead, you’re far more likely to see an early unwind of cyclical/value strength based on a full Fed embrace of the ‘lower (yields) for longer’ stance. We still think the preference for cyclical/value has a few more weeks to go, but tomorrow’s message could start a small/early unwind. From a price perspective only, the cyclical/value trade is already quite advanced. Since May 15, cyclical industries like autos, travel and banks are up ~25%, while Staples, Pharma and Tech are up just ~5%.

FX: The US Dollar Index is down about ~5% since during this same period of cyclical sector outperformance (since 5/15). The US dollar behaves defensively during a recession but also higher as Fed policy rates were higher than elsewhere. The recent move has some calling for a full reversal of the past decade relative strength, implying another ~10% lower from current levels. That would have very positive implications for Emerging Market equities and the entire commodity complex. Unfortunately, the rate differentials between the US and popular carry trades in Emerging Markets (Brazil, So Africa and Turkey) are currently far tighter than they’ve been during past episodes.