As October comes to a close, global markets continue their expansion. The Fed indicated its intention to begin unwinding its $4.5 trillion balance sheet. However, investors are either doubtful that the action will impact capital markets or they are in denial that the tapering will ever begin. During the month, the MSCI World and S&P 500 indices both rose 2.1%, while the 4.6% rise in WTI oil helped push the TSX up 2.3% for the period. Brent and WTI future prices extended their gains on anticipation of reduced supply. OPEC members and non-members provided indications that output cuts would persist, while US rig count dropped further, suggesting that future output from US Shale drillers will slow. While readers understand that OPEC talks have the slightest influence on the price of oil, the prospect of reduced supply from the US could have a considerable effect. Nevertheless, if the price of oil rises above $60, the incentive to increase drilling improves. It will be interesting to monitor both the rig count and overall US supply under these circumstances. The WTI Crude Oil Futures price closed at $54 on 30-Oct-17.
October featured a curious movement in currencies. US Dollar weakness prevailed for most of 2017, as the trade-weighted currency basket slumped 11.3% during the first nine months. However, the benchmark reversed-course, rising 3.8% from the September low. Accordingly, the Canadian dollar slipped 2.8% versus its North American counterpart, despite rising oil prices.
US Treasury yields also caught headlines in October. Theoretically, Treasury bonds should come under pressure due to the anticipated balance sheet unwinding. Initially, the 10-year yield rose 0.16% to 2.46%. This level was last reached in March 2016. However, rumours that President Trump was leaning toward the appointment of Jerome Powell as the next Fed Chair caused a reversal back down to 2.36% in late October. Mr. Powell is widely viewed as a safe pick. He is unlikely to change the narrative and he will be supportive of the accommodative policy, which includes slowly raising interest rates in a very measured manner. The White House intends to announce the Fed chair selection on Thursday, 02-Nov-17.
This month we re-visit our September commentary regarding inflation seemingly coming back to life. The embedded chart highlights the historical relationship between US inflation and commodities, measured as the Bloomberg Commodity Index. Historically commodities have been a strong leading indicator because these are the key input into purchased product. However, more recently CPI is moving ahead of the commodity curve. US Dollar weakness and the transient impact from hurricanes are factors in CPI’s advance. But, it will be important to monitor commodity pricing as strength could further spark the sleeping embers of inflation. Clearer evidence of price gains might cause Fed members to become impatient with the highly accommodative financial conditions and encourage more rapid rate increases.