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Fiscal Cliff Forces Premature End to Election Celebrations | Financial Planning Tips

Fiscal Cliff Forces Premature End to Election Celebrations

The Democrats won the US presidential race by a more convincing margin than nearly any FX trader predicted last Tuesday, as President Obama won all but Indiana and North Carolina from from the swing states up for grabs – and in the process making a mockery of the numerous polling agencies that predicted a far tighter race.

The Republicans also failed to win the Senate and won the House by a much narrower margin than last time around. These developments will provide President Obama with a much stronger mandate when he meets with Congress to negotiate the so-called US fiscal cliff – a series of automatic budget cuts and tax cut expiries that will take place on January 1 unless a new deal is struck.

In the lead up to the election, we expected the initial reaction to an Obama victory would see traders celebrate risk appetite by selling USD on the relief that the Fed under Ben Bernanke, its chairman, would see no disruption in its policy making next year.

Even if Bernanke decides to leave, Obama will inevitably appoint someone who is sympathetic with Bernanke’s views on quantitative easing, as opposed to Romney, who has heavily criticised the Fed’s policy, and would like to have appointed a hawk in his place.

Any jubilation over an Obama victory, however, was quickly cut short as concerns about the fiscal cliff came to the fore. After an initial sell-off in the USD and rally in risk appetite, stocks began a vicious sell-off and the USD rallied as it normally does the very day after the election.

There are two reasons why a stronger Dollar and weak risk appetite may persist in the near term. The first is related to the drag the US fiscal cliff could have on the US economy. Obama will feel that his hand is even stronger after the elections, and this could push negotiations right up to the deadline.

Likewise, Republicans still aggrieved by the election result, may have little incentive to give Obama a free pass. But even if a new deal is struck that reduces the worst-case scenario, the very low capital gains taxes is expected to be moved significantly higher in 2013. This may drive US investors to take an early profit, with some even suggesting this was the reason behind the timing of George Lucas’s move to sell the Star Wars franchise to Disney.

The plight of peripheral countries in the Eurozone is also likely to contribute to the stronger Dollar. Recent political developments raise questions over whether the fabric of Greek society can withstand the strain of austerity, and whether France is the next problem spot for the EMU.

Meanwhile, USDJPY may be looking to make a reversal to the upside in the long-term.  For now, however, that turning is challenged by the risk-off atmosphere and the strong rally in world or foreign bond markets, both traditional JPY supports. But the stronger yen here also guarantees that Japanese officials will become even more vociferous in its response to countering the risks of a stronger currency.

Guest Post by Saxomarkets.com. You can access more of our commentary on the USD by downloading the latest Saxo eBook and joining the #FXdebates. You can also take a look at Saxo’s infographic on the Dollar.

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