S&P is making a record high, the Dollar is down 10.7% from the start of the year

At the same time the S&P is making a record high, the dollar is down 10.7% from the start of the year. The last time the dollar was this weak was 1973 when Nixon took the dollar off the gold standard and let it float.

This is precisely what Trump wanted—a juicy gain in equities and a weak dollar. We old-timers fret about the US losing trust and credibility and safe-haven status, but those ideas have no meaning in Washington today.

Meanwhile, the bond vigilantes are biding their time. Will they strike when the budget gets passed? We expect vigilantes to show disapproval of government policy by selling bonds, which drives yields up, at least in the absence of other buyers. We are confused about why this is not happening when there is so much noise about the new budget raising the debt to what some see as unsustainable heights.

Some ideas about the uneasy quiet in the bond market: traders are paying more attention to inflation and the Fed. If we get two or even three cuts by year-end, as Goldman suggests, the current yield is quite nice, thank you. Another idea is that even if the budget is passed, the debt ceiling needs to be raised later in the summer.

And finally, there is ongoing uncertainty about the July 9 tariff deadline. The very idea of a deadline by one sovereign to all others is a bullying tactic. It has not worked so far and the deadline is next week. The probability of an extension is very high. Why the bond market likes this idea is a but murky but comes down to slowdown but not recession.

The deficit number as of this morning is $3.3 trillion. The Republicans lie about how many millions will lose Medicaid health care and the Dems push the boundaries on how they will win the mid-terms if the budget passes. The Senate “vote-a-rama” may go on all week. Trump wants a bill by July 4. 

The latest fun point: Trump suggests subsidies to Musk’s enterprises be cut. Reuters reports Tesla shares fell about 5% in Frankfurt. DOGE is also targeting agencies like the SEC.

Probably the most important development pushing the dollar down is growing acceptance that the Fed is going to cut rates, come hell or high water. Goldman is “penciling in three 25bps Fed cuts in September, October and December because if there is any insurance motive for cutting, it would be most natural to cut at consecutive meetings, as in 2019. We do not expect a cut in July, barring much weaker-than-expected employment data this week."

The CME FedWatch tool has the probability of three cuts by year end at 53.1% from 29.3% a month ago.

Tidbit: The NYT has a photo of the note hand-written from Trump to Powell on a page showing world central bank rates--rate cuts everywhere except the US.

Forecast

The markets are capitulating to the idea the Fed is going to cut rates this year at least two times and maybe three. This accounts for both the optimism of the stock market and the unusually long-lived ongoing dollar sell-off. 

The implication is that the disastrous deficit is not really a critical factor, and that is consistent with historical norms (except Spain in the 17th-18th centuries).

All the same, the dollar is oversold by a mile. It’s hard not to expect a correction of at least 25-33%. But if the rate cut idea is correct, any consolidation should be short-lived.

Note to Readers: There will be no reports this week on Thursday, July 3, and Friday, July 4. It’s a national holiday in the US and markets will be thin (Thursday) and closed (Friday).

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