Summary View: We are long the US dollar in DM and EM, short equities, long bonds and waiting for a low in commodities.

The notable difference in Powell’s testimony from his predecessors of the past few decades was the absence of jargon. Our take on the testimony is that monetary policy is on track for the three hikes that forward guidance has assumed. The economic outlook is at the outer edges of capacity limits and inflationary pressures are building. The balance of risk is for somewhat tighter policy than what is discounted, and so a fourth hike is possible.

The bond market acted as though it broadly agreed with this interpretation by falling slightly. Our view is that while this is a reasonable picture of the economy today, we expect disappointing economic data in the second half of the year. Some early signs are showing up in our indicators. The most important of these is money growth; that has been slowing for some time, and is now barely at the growth rate of nominal GDP.

Economic turns are rarely abrupt, so we should see a process develop which will be reflected in equities topping out and bonds bottoming out and holding at the 3% level as a soft limit to the high in yields. It may take a few tests of that level, with intermediate rallies, before a decent rally gets underway when inflation concerns dissipate again.

Equity markets do appear to be rolling over again. The recovery off the lows still looks corrective in most markets. The Nasdaq maybe an exception, driven higher by Amazon. But even Amazon will not escape an economic downturn. In fact, that is its Achilles heel. It looks to us as though it is near the end of its rally. Turning down will signal a general market decline for a test of recent lows.

The dollar is continuing to base out, and we continue to expect a recovery in the index to 96-97. We have now had some confirmation from the ECB that the end of abnormal monetary policy is not happening yet in the Eurozone – and that it may not happen at all under Draghi. His role as head of the one institution in Europe with real transnational power has been to hold the Eurozone together – and in this he has succeeded. As such, monetary policy is made for the weakest big country, which is still Italy – and Italy is not ready for higher rates.

Japanese investors have been wary of the US bond market. This is why higher US yields have not attracted them. Trump is a poor salesman for the US debt market. However, as bonds recover and inflation data eases, Yen investors are likely to buy more again. Thus, we expect a rally in dollar/Yen along with one in US Treasuries.

While sterling tends to follow the Euro against the dollar, it is also affected by some domestic factors that have taken an interesting twist recently. We are strategically bearish on the Pound because the UK has a structural deficit in both trade and government spending. It was with this that the country chose to break with its major trading partners. The process brought into the open the schism that lies at the heart of the Conservative government between “Remainers” and Brexiteers. It is this schism that keeps Theresa May in power as she runs the fine line between them. The Labour Party has finally declared its position to keep the UK in the Customs Union that is the “Remainers’” default position if they can’t stay. Now the question is, will Conservatives put country or party first? At risk is the prospect of a leadership contest – and an early election that Labour could win!

The strong dollar has been containing commodity prices as expected, and gold is testing the higher end of our support zone. It will probably drop another one percent or so before recovering. Gold is not just dependent on inflation, but on real interest rates.  We can afford to be patient.

Meanwhile, the bounce in crude should be over soon, and we are looking for new lows. We focus on the front end of the curve, but the long-term market has evolved a fascinating new game between OPEC supporters and US frackers whereby OPEC tries to keep the front month up and a backwardation thereafter to deter frackers from hedging. Good luck with that!

Malcolm Tulloch

The writer is director of the firm Tulloch Research. The company provides bespoke advice to clients on macro-opportunities in financial markets.

“Intuition is a product of accumulated experience”

Tobias Truman