In my Monday post we discussed why it may be appropriate to short US Dollar in the first half of January. Yesterday we’ve got the first signal of development of this our scenario. USD index (DXY) fell from 90 points to 89.20 on Wednesday, while EURUSD rose above 1.23, GBPUSD tested a new multi-year high at 1.37 while Gold sticks to its plan to climb above $ 2000, and I think it will succeed. Recall that the key chart I recommended to keep an eye on is the odds of Democratic win in Georgia run-off elections:
Betting odds of Senate elections outcome in Georgia
The likelihood that both Democratic candidates will win the hearts of voters in Georgia rose to 98.04%, up from about 50% on Monday. At the same time, as we can see, the dollar index really sank noticeably. The point is that if the Senate comes under the control of Democrats, the markets will get two medium-term themes for trading:
- The prospect of Democrats pushing through a new large stimulus package;
- The prospect of Democrats raising taxes for corporations and the rich;
The first point implies that the US government will be forced to ramp up borrowing (to fund a new stimulus bill). If holders of US government bonds really expect new bonds to flood the market, they should be inclined to sell them now expecting price declines. As bond yield and prices are inversely related, we should see increase in bond yields as a market reaction. And we do observe it:
Additional stimulus package combined with the Fed's ultra-dovish forward guidance (keep interest rates at zero until 2023) is an almost guaranteed increase in inflation expectations (and then inflation). Then gold, which hedges inflation risk, should also increase in price what we currently observe as well:
On Wednesday, Nasdaq futures breached to the downside (-1.78% at the time of writing of this post):
If you remember what Biden's tax proposals included, then it becomes clear that if Democrats gain control over Senate, their plans for income redistribution will hit corporate America. According to BofA calculations, S&P 500 companies will see their profits decline 9.2%, with tech sector suffering the most if Democrats pursue their tax reforms. For big tech companies, potential drop in percentage profit is double digit. Hence the early negative reaction in the futures market, which I believe is far from over. In my view, rising uncertainty about corporate tax policy in the US, stemming from the rising odds of Senate Control by democrats, lends powerful bearish impetus to shares of Apple, Microsoft, Facebook, Amazon, Alphabet, at least in the near term.
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