2 November 2018
FX markets: Back from the brink?

News from President Trump that a trade deal with China is ‘moving along nicely’ has seen risk markets rebound and the dollar sell off. Whether this is a ploy to help US equities into the mid-term elections remains to be seen, but clearly, November will be a big month for the dollar

A trade deal by the end of November?

Following a phone call with President Xi on Thursday, President Trump has said that a trade deal is moving along nicely and raises (modest) expectations that some kind of bilateral agreement can be reached by the end of November when the two presidents meet at the G20 in Argentina.

It’s probably far too early to be shifting base-case views on protectionism – e.g. does Washington merely want to reduce the bilateral trade deficit or does it have more strategic ambitions to slow China’s ‘Made in China 2025’ ambitions? - but the (limited) prospects of a trade deal at the end of November could prove a cushion for risk assets and catch out fund managers overweight cash – largely USD cash.

Today’s news has served to drag USD/CNH away from the psychological 7.00 area – a level which had been protected by the People's Bank of China over recent months via: i)  making forward Renminbi sales more expensive, ii) closing loopholes for capital outflows and iii) re-introducing greater PBOC control in daily USD/CNY fixings.

Today’s market moves will prove a double-edged sword for the Chinese leadership. While some relief from the ‘Sell China’ market mentality will be welcome, the moves are a demonstration of the power of Washington policy on the world’s financial markets.

US mid-term elections: Feeling Blue?

The mid-term elections are less than a week away and opinion polls continue to suggest the Republicans are under pressure. The loss of Congressional control would make life increasingly difficult for President Trump and have major implications for policy. Here we revisit the possible election scenarios and assess their market implications

Setting the scene

The 6 November mid-term election offers the electorate the opportunity to give their assessment on the first two years of Donald Trump’s presidency. Does the “Make America Great Again” policy thrust continue to resonate to the same degree, have legal issues taken their toll, or is it still all down to “the economy, stupid”? The outcome will have major ramifications for economic and trade policy, which will set the battleground for the 2020 presidential election.

Currently, the Republicans hold the Presidency and majorities in both the House of Representatives and the Senate, but Democrats will be looking to break this stranglehold. All 435 House of Representative seats are up for grabs along with 35 of the 100 Senate seats[1].

The Republicans hold 235 seats in the House of Representatives versus the Democrats’ 193 while there are seven vacant positions. This means the Democrats need to make a net gain of 25 seats to wrestle control of the House from the Republicans

In the Senate, the Republicans have a wafer-thin majority. They currently hold 51 of the 100 seats (plus the Vice President’s vote if needed in a tied vote) while the Democrats have 47 and there are two independents, who vote with the Democrats. However, of the 35 seats being contested in November, the Democrats have 24 up for election along with the two independents, while the Republicans only have nine. As such, the Democrats need to win two of the nine Republican-controlled Senate seats, while holding on to all of the seats they currently occupy to gain control of the Senate.

National polls have remained broadly stable over the last month or so, showing Democrats ahead by 8-9%, though President Trump's approval rating has improved slightly (but his net approval remains negative). This points to a solid but not insurmountable advantage for Democrats in the House race, while Republicans remain favoured in the Senate thanks to the advantageous map.

Betting odds and polling analysts continue to believe the most likely outcome is that the Democrats will win control of the House of Representatives, but fall short in their quest for the Senate. The odds of a Democratic Senate majority have lengthened materially, with no more than a 10-15% probability now ascribed to that outcome. Democrats would need to win every close race in the Senate to make it to 51 seats (or perhaps score a surprise win in Texas or Tenessee).  

Betting odds and polling analysts believe the most likely outcome is that the Democrats will win control of the House of Representatives, but fall short in their quest for the Senate

Still, even if the most likely outcome is a Democratic House and a Republican Senate, there is a fairly large chance of a surprise outcome. That's because there is virtually no chance of a Democratic Senate and a Republican House, so the probability of the two less likely outcomes (Democrats win the Senate, or Republicans hold the House) are cumulative. That means there is a 30-40% chance of a different outcome from the central expectation. To the extent that markets are expecting a Democratic House/Republican Senate, there may be scope for a sudden adjustment on the morning of November 7th if there is a different outcome.

Odds of Democratic control of Congress after 2018 Mid-terms

(Figures as of 1 November in BOLD, and as of 26 September IN BRACKETS)                





House of Representatives



4/9 ~69%

(4/11 ~64%)






12/1~ 8%

5/1 (~17%)



[1] Members of the House of Representatives serve two-year terms whereas the President has a four-year term and a Senator has a six-year term. Senators terms are staggered so one-third of the 100-member Senate are up for re-election every two years. This year there are 33 Senate seats being voted on in regular elections with two additional special elections due to Senators resigning before their term ended.

Coal: The market awaits China

Thermal coal prices have surprised the market once again this year, with stronger imports from China proving supportive for the seaborne market. Chinese policy will be key for how prices evolve over the winter

What will China do next?

China remains key to the seaborne coal market, and government policy is clearly going to dictate price direction as we move deeper into winter.

Chinese coal imports over the first 9 months of this year totalled 228mt, up 11% YoY, and these stronger imports have offered support to the market for much of the year. This has particularly been the case for higher calorific coal, with the spread between Newcastle 6,000 kcal/kg and 5,500kcal/kg coal widening to US$44/t, from around US$25/t at the start of the year.

However, port restrictions have meant that the seaborne market has edged lower recently from levels seen earlier in the year. The Chinese government has been keen to keep domestic coal prices within a range of CNY500-570/t. However, they have failed to do this for much of the year- at the moment prices are trading around CNY648/t. The government will take comfort in the fact that domestic prices have trended lower since early October, but this could change as we enter peak demand. This does leave many questioning whether the Chinese government would take any action to bring prices lower. If the government wants a weaker domestic market, one solution would be to relax import restrictions, which would obviously be constructive for the seaborne market. For now, the government says it will not relax current restrictions.

Looking at domestic supply, it has struggled to grow by any significant amount this year. Domestic output over the first 9 months of the year totalled 2.59b tonnes, just 2.91m tonnes more than the same period in the previous year. China’s National Energy Administration is targeting coal production of 3.7b tonnes over 2018, up 4% YoY. But based on current production trends, the country will fall short of this target. Meanwhile, according to SteelHome, thermal coal port inventories in China have declined in recent weeks, falling from 22.85m tonnes towards the end of September to 18.61m tonnes as of the end of October. In fact, port stocks have fallen to their lowest level since early June.

How tight the coal market will be over the winter will largely depend on seasonal demand but for now, China’ s National Climate Center is forecasting a warmer winter over most parts of the country. Furthermore, the National Development and Reform Commission (NDRC) believes that while the domestic LNG balance will be tight this winter, there should be adequate supply for residential use. However, if we do see a repeat of last year, where LNG supplies were not sufficient, expect increased volatility in seaborne coal prices.

Brexit blog: Don’t count on the gift of a Christmas deal

Sterling has jumped on reports Brexit talks are inching closer to a conclusion, but the fundamental challenge of getting a deal approved hasn't gone away. Don't rule out Brexit talks stretching into December or even well into the new year, as the UK government tries to focus minds in Parliament

After all the ups and downs of the October EU Council meeting, things went eerily quiet on the Brexit front in recent days. But that was until earlier this morning when reports emerged suggesting the UK government remains hopeful a deal can be agreed at an emergency EU Leaders' meeting later in November.

However, we'd caution this remains far from guaranteed, and to understand why it's worth going back to the crucial question in the Brexit debate. That is, will any UK-EU agreement be approved by British MPs?

Despite the latest encouraging news reports, the reality is we are no closer to knowing the answer.

China: Yuan set to weaken further next year

President Xi emphasised the economy has been hit by external forces and needs measures to support growth. At the same time, the National Council announced a stimulus package. While the amount has not been disclosed, we estimate it to be CNY9 to 10 trillion. We also weaken our yuan forecasts for 2019

Xi highlights external forces as drag on economy

President Xi emphasised that external forces have hit the economy, which we believe is a reference to the bilateral trade dispute between China and the US. The nature of the trade war has become clearer over time: as a technology war (the US avoids using China's technology, and avoids technology being transferred to China), an investment war (US imposes penalties on Chinese tech company in the US), and an additional geopolitical element (naval standoff in South China Sea and military sales to Taiwan).

Xi's message implies that the chance of getting a positive result from trade negotiations between China and the US is small. That means that the possibility of the trade war escalating and continuing to drag on the Chinese economy is high.  

Brazil: Fiscal policy in the driver’s seat

Election results triggered an improvement in the fiscal outlook that should help extend the rally in local assets. The stronger currency helps the inflation outlook and reduces the central bank’s incentive to end, prematurely, the monetary stimulus. We expect the SELIC rate to remain unchanged until the end of 1Q19, at least

Monetary policy to react to fiscal policy in the foreseeable future

The most immediate implication of Jair Bolsonaro’s election over the weekend has been the improvement in the outlook for fiscal consolidation in the coming years, validating and reinforcing, in our view, the rally in local assets seen over the past month. 

The rally in the Brazilian real (BRL), meanwhile, instantly improved the inflation outlook and reduced the central bank’s incentive to end, prematurely, the ongoing monetary stimulus. In its latest policy meeting, central bank authorities kept the policy rate on hold at 6.5% but altered the guidance from neutral to hawkish. They indicated that they would be open to considering a “gradual” policy tightening programme, but only if the inflation outlook deteriorated further. That would have been the case, for instance, if the BRL had weakened further due to the political/fiscal uncertainties.

This was not the case. As a result, we expect the central bank (BACEN) to keep the SELIC rate unchanged tonight and acknowledge the somewhat improved inflation outlook. In fact, we now have higher conviction that inflation will stay close to the target and that the SELIC policy rate should remain unchanged, at 6.5%, until the end of 1Q19, at least. 

Germany: Merkel Dämmerung

Chancellor Angela Merkel just announced the end of her political career. The next federal elections in the autumn of 2021, at the latest, will mark the end of the Merkel era

German Chancellor Angela Merkel today announced that she will step down as party chair at the December convention of the CDU. She has been party chair since 2000. At the same press conference, Merkel also announced that she will end her political career at the end of the current term. She explicitly ruled out any personal ambitions for a European top job and would also not run at snap elections, neither would she take a seat in parliament.

Reading time around about 12 minutes

In case you missed it: Change of guard

With Merkel throwing in the towel, May trying to play for time pushing back the crunch vote on Brexit and the US mid-term elections next week, political change appears to be intensifying around the globe and is only likely to heighten uncertainty for financial markets. And don't forget sanctions are coming! 

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