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Once again, fiscal stimulus takes centre stage

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By Hussein Sayed, Chief Market Strategist at FXTM

Investors do not seem bothered by Washington’s political turmoil. Donald Trump became the first US President to be impeached twice, a little more than a year since his first

While he will most likely continue to serve the remaining six days of his term, his political future is now uncertain with a high possibility that he is barred from running for the presidency again if he is found guilty of incitement of insurrection.

Equity markets inched slightly higher on the (second) impeachment day with US stocks continuing to hover near their record highs. Political noise is apparently of the least concern to investors who are looking forward to strong economic growth in 2021 and another big stimulus package from the new US administration.

According to Biden aides, the President-elect is set to reveal his plans for a COVID-19 relief package later on Thursday, which is likely to be somewhere near $2 trillion. The package will include significant funding for vaccine distribution, an extension to eviction moratorium, support for the unemployed, government aid and another sizable direct payment to American families. The latter is likely to be the trickiest part as most Republicans and some Democrats are against going too big.

On the other hand, opting for a small package will disappoint investors and lead to profit-taking in equity markets. Finding the right balance will not be easy.

While political instability in Washington has so far been ignored, there remains a risk of profit-taking if violence on inauguration day escalates, especially as markets are almost priced to perfection. With valuations extremely overstretched, some investors need an excuse to book their profits and January 20th may provide this.

 

Where to yields go from here?

Another risk investors need to keep an eye on is how high bond yields go from here. The good news is we are not yet seeing significant inflationary pressure reflecting in data.

US consumer prices rose 0.4% in December and when excluding volatile food and energy components, prices only rose 0.1%.

Overall, rising inflation will be one of the hottest topics in 2021, but it’s too early for the Fed to announce any tapering of asset purchases. Any signs of this may bring an end to the Dollar’s decline as higher yields begin to attract Dollar inflows and make equities valuations harder to justify. This will be a topic to explore in detail later in the year.

However, it will be interesting if the Fed’s Chair Jerome Powell provides any hints on this topic later Thursday on a webinar hosted by Princeton University.

 

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