Dollar Sells Off Ahead of Election Results (page 1 of 2)

US Dollar - After quietly consolidating on Monday, the currency market has finally awakened to align itself with the expectations of the stock and bond markets. This means that all three of the major markets are now anticipating a political gridlock with Republicans losing partial if not complete control of Congress. This also suggests that the market will most likely have a larger reaction to a clean sweep by the Republicans than a Democratic win.

The fact that every market has priced in political gridlock, or a Republican win of the Senate and a Democratic win of the House suggests that the actual confirmation of these results may only lead to a mild extension of current dollar sell-off. The reason why a Democratic majority in either group is negative for the dollar is not a matter of what the Democrats will bring to the table, but instead a matter of what they will prevent. They will most likely approve less trade deals and apply more oversight into corporate practices.

They will also be much more stringent on government spending and more likely to increase taxes. The only potential dollar positive is their support of an increase in the minimum wage. Higher wages increase inflationary pressures which would keep Fed policy on hold for a longer period time of time. There has been an exceptionally tight leash on the exit polls so it is has been difficult figuring out what is going on behind the scenes. Early exit polls have been quarantined in a secret room with cell phones and blackberrys confiscated until 5:00pm EST. The only word that we are hearing is of all the problems at the poll stations.

These problems have been very widespread, which brings back the possibility that the results could be delayed or there could be a fierce debate after the elections on their validity. There is no US data due for release tomorrow which should keep the markets focused on the Midterm election results. Federal Reserve President Moskow is due to speak again on the economic outlook and will most likely reiterate his previously hawkish stance.

Euro and Swiss Franc - The Euro hit a one month high today before retracing as the market positions itself for the release of the US Midterm election results. We want to point out that economic data continues to disappoint regardless of yesterday's optimistic outlook from the European Union. Despite an up tick in the Eurozone October PMI index, retail sales fell 0.6 percent in the month of September while German industrial production dropped by 0.3 percent.

These numbers however are not worrying the European Central Bank who continues to stand by their bias for higher interest rates. ECB member Garganas was the latest to reiterate his belief that monetary policy remains very accommodative and if inflation risks continue to remain above 2 percent rates next year, more rate hikes will be needed. ECB President Trichet was tight lipped about what the market should expect in terms of rates next year. Garganas' inflation comment sheds a bit more light on that.

Should inflation resume its rise next year, expect more hikes. On the flip side, if we see $50 oil before we see $80, expect the ECB to pause. The only piece of economic data due tomorrow is the German trade balance, which means that there will be no distractions to draw away from the US Midterm elections. Switzerland confirmed its unemployment rate at 3.1 percent, which is the fourth consecutive month that it has remained at that the level. This is also the tightest level that the country's labor market has been since 2002.