US Dollar Outlook: Act 1 of the Trump Trade is Done, Here are What the Next Four Stages Look Like

US Dollar bulls showed a marked disappointed at Donald Trump’s first major press conference since winning the presidency.

The lack of hard detail about his fiscal stimulus plans was the main criticism, yet it could have been asking too much to expect the president-elect for a spreadsheet plan of action, says foreign exchange strategist Viraj Patel in london.

“Maybe it was a bit fallacious of markets to expect President-elect Trump to give a full-blown account of his fiscal policy agenda this week," says Patel.

Nevertheless, the message was clear; they want more details if they are to drive the Dollar higher.

Stage 1 of the Great Trump Reflation Trade is Over

Concerning the future of the Trump Trade - the rally in markets and the Dollar following his victory - we need to understand its various stages.

Deutsche Bank’s Macro Strategist Alan Ruskin has identified a five-act evolution for the new President’s impact on markets.

According to Ruskin, we have already reached the end of the first act in which the market is propelled higher by promises.

“Trump’s press conference on Wednesday has probably drawn the line between ‘the promise’ phase, and, the stage where deliverables will become progressively more important,” comments Ruskin in a foreign exchange strategy briefing to clients.

Stage 2 – The First 100 Days

The next stage is the first 100 days after Trump’s inauguration on January 20.

This period is expected to be very active, says Ruskin.

It will be where Trump’s policies are tested against reality in the form of Congressional agreement.

Some reforms are already closer to getting passed than others.

The ‘Border Tax Adjustment’, which will see exporters obtain a 20% tax break and foreign imports slapped with a 20% tariff, is already quite advanced and likely to see quick and safe passage through the lower house.

For other policies, such as the go-ahead for big infrastructure spending, many house Republicans may be not so easily convinced, as it goes against their core conservative values.

Ruskin makes a further point worth considering in relation to the perils of passage from promise to reality, and that is that the more detailed the reform, the more likely it is to threaten a wider array of entrenched interests, who will immediately set about blocking it.

“The more complex the fiscal package, the more far-reaching the implications, the less chance it becomes law, for any far-reaching tax reform is inherently disruptive to entrenched interests, and these interests then work to undermine Congressional support for change,” says Ruskin.

Complex reforms, therefore, may well push the ‘deal-making’ second stage into the 3rd quarter.

Stage 3 – Markets React

Once – and if - policies become enshrined in law we will be into stage three, which will probably see an immediate reaction from markets to the news policies have been legitimized.

“Once plans are turned into law, the market will have a clearer sense on the timing and reach of the main growth impulse. We would expect that asset markets will at least partly ‘front-run’ the growth impulse,” comments the Deutsche strategist.

An overlapping but separate consideration of stage 3 is also likely to be the impact of a change of personnel at the Federal Reserve, and the possibility of the implementation of a more ‘rules-based’ monetary policy decision-making system.

This likely to be hawkish as it will probably be related to the Taylor-Rule which is currently indicating much less accommodation than the Fed still has in place.

Stage 4 – Growth Impact

Whilst stage 3 is all about speculation, stage 4 will be about real impact.

This is where the growth strategies put in place in 2 and 3 finally start to produce results – whether good or bad.

“This will be a phase where we better understand how much the Fed will tighten in this cycle and whether the peak in the USD is in 2018 or even beyond.

“If there is a genuine acceleration in growth, the market could make sizable adjustments in Fed expectations, and this may well prove another important period for trending markets,” said Ruskin.

Stage 5 – The Payback

The economy’s ‘hang-over’ - this stage may see a slowdown, after the growth and uplift of previous phases.

“Fiscal stimulus often brings growth forward, usually with a payback in the form of slower growth as the stimulus wears thin.

“Similarly, there is a reversal in financial prices.

“Think of this as the equivalent of what we saw for the USD in the 1982–84, where the rally gave way to ‘the payback’ of a much weaker USD in 1985-87.

“In current circumstances, payback is more relevant for 2019 and beyond,” says Ruskin of stage 5.

Impact on USD

Ruskin notes that the outlook for the US Dollar is particularly positive.

The Fed’s more hawkish policy orientation coupled with even very modest fiscal stimulus could see the Dollar rise circa 5%.

This is on top of seemingly quite easy-to-pass policies such as the proposed slashing of corporation tax to 15%, which is expected to lead to a 10-15% rise in the Dollar alone, according to analysts at Commonwealth Bank of Australia, means the Dollar may be in for one hell of a ride higher.

If the Border Tax Adjustment Plan were to be passed as well, it would, in Ruskin’s words make the Dollar’s rise “simply overwhelming”.