The US dollar followed domestic equity and bond markets to price in expectations of electoral gridlock through todays elections. Despite staying relatively motionless through Monday… … trading.

The Greenback subsequently lost ground against
major world currencies as risk-averse traders shed positions on the lingering
political uncertainty. Much as we had claimed in yesterday evenings report,
continued confusion over which political party will take control allowed stocks and
bonds to continue their recent rally and finish higher on the day. Perhaps the most
interesting development occurred through London trading, however, as currency
markets were quick to follow cross-market currents and offer the dollar lower
through the midpoint of the New York session. Market reactions effectively validated
the usefulness of cross-market analysis, as earlier strength in fixed income and
equities predicted the correct currency price move. Even implied volatilities
were trading off of fresh record-lows, as options traders priced in the doubts
behind a smooth electoral process. It will be important to monitor any further
developments through tonights broadcasts of early results, with any surprises
likely to cause further volatility across US asset classes.

Bonds – 10 Year US Treasuries

The flight to safety ahead of a potentially rocky electoral process was nowhere more
evident than in US Treasury markets. Indeed, government debt premiums built on
yesterdays strength to send 10-year Notes just 7/32 points short of Fridays
high. Though a later retrace saw prices only modestly higher, yields dropped 4 basis
points to 4.65 percent by the New York close. Reports of technical difficulties and
speculation of corruption in the voting process increased the likelihood of a more
drawn out electoral process. 10-Year Notes were unable to overcome three-day highs
at 101-29, however, and settled to trade just above the 101-20 mark. The volatility
in prices is nonetheless likely to continue through late trading, as US news
agencies reveal early results from various state elections. One can expect further
gains in Treasury premiums if races continue at relative deadlock, with yields to
fall further from Fridays highs.

FX – EUR/USD

A lack of scheduled economic indicators allowed for the uncertainty surrounding
todays Congressional election to guide the US dollar against its major pairings.
The interest underlying the event was clearly seen in the change in market
conditions from session to session. Going into the close of the New York session
yesterday, the anti-dollar rally cooled as American traders squared their positions
before going off line. Then, over the bulk of the Asian and European sessions, the
EURUSD was confined to a 25-point congestion area just above 1.2750 support. When
North American liquidity came back online though, the rally was reinstituted. At
13:30 GMT, dollar selling took the pair all the way up to 1.2820 before greenback
bulls stepped in to defend the relatively strong level of resistance. A little
later in the morning, after a failed attempt at a double top, dollar selling finally
dried up and the pair quickly shed 45 points before leveling off. Ending the
session just a few points were it began reveals the same environment of uncertainty
in the currency market that is afflicting stocks and bonds. A relief move could be
in store for the dollar majors when the votes have been tallied and the makeup of
both the houses of Congress is certain.

Equities – S&P 500 Index

All the major US equities indices were put on the move early Tuesday morning, helped
along by easing crude prices and expectations for the final results in the mid-term
congressional election. Following yesterdays strong advance, the broad S&P 500
chalked up its second bullish session on a 0.2 percent run. However, looking at the
intra-day progress of the benchmark index reveals most of the gains were captured in
the opening hours, suggesting traders were working off momentum from Mondays
closing hours before caution took over. In the opening forty minutes of trade, the
S&P 500 made its biggest move in a steady 6.96 point rally to 1,386.85 by 15:10 GMT.
From there, choppy conditions ensued with the session high at 1,388.19 printed
during the usually involatile lunch hours. After the high was recorded, a gradual
sell off brought the gauge down around 1,383 around where it ended the day. This
caution seems well deserved. Once again approaching recent record highs associated
with what some have called an overextended run in the market suggests bulls require
additional support from the fundamental coffers to secure another bullish leg into
record breaking territory. The difference between political gridlock and political
harmony could determine the ultimate direction of equities for the months ahead.

Regards,

John Kicklighter
Forex Capital Markets
32 Old Slip, 10th Fl
New York, NY 10005
Email: jkicklighter@dailyfx.com

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