Dollar Rally Likely to Extend After Election

After the weekend’s surprise FBI announcement that it has found no evidence of criminal wrongdoing by Presidential Candidate Hillary Clinton in connection with her private email server, financial markets on Monday have clearly begun to price-in a Clinton victory. US stock markets (the S&P 500 and NASDAQ) rallied more than 2%, the US dollar rose sharply against most other major currencies, and gold prices plunged. If Clinton indeed wins the presidential race on Tuesday as the markets are currently predicting, most of these market reactions may likely plateau or experience much slower drift, as a more business-as-usual market environment returns. For the US dollar, however, a longer-term rally is likely to extend as focus shifts back to the Federal Reserve.

It remains clear that a Clinton victory tomorrow will remove one of the major risk factors for the Fed in terms of raising interest rates. Regardless of political leanings, a Trump victory would most likely contribute to substantially heightened market volatility, potentially playing a key role in discouraging a December rate hike by the Fed. A Clinton win, in contrast, should dampen market volatility, and would therefore help encourage the Fed to pursue tighter monetary policy.

At the same time, despite missing headline market expectations last week, October’s US jobs data held some very significant clues that inflation was on an upswing and the US employment landscape is both solid and improving. First, the non-farm payrolls reading for the prior month of September was revised sharply up to 191,000 from its original disappointment of 156,000. But even more importantly, October’s average hourly earnings, a key measure of US wage growth and inflation, was surprisingly better than expected at +0.4% against prior expectations of +0.3% and up from September’s +0.2%. Overall, wages posted a 2.8% annualized increase, the largest rise in over seven years.

As inflation and employment are the primary drivers of Fed policy decisions, this positive data in combination with the lower likelihood of initial market volatility under a Clinton Administration, should place even more pressure on the Fed to raise interest rates in the near-term. If this indeed becomes the case, the dollar could quickly recover from its recent election-driven slump and embark on a substantial rally.

USD/JPY has recently shown some indication that it has formed a base around the major 100.00 psychological support area, as it has risen well off those lows over the past several weeks. With extended dollar strength and further weakening of the safe-haven Japanese yen after Tuesday’s election and ahead of the next Fed meeting, USD/JPY could break out above strong resistance around the 105.50 level, in which case the next major upside target is around the key 108.00 resistance level.