The Trump reflation trade is fizzling out as the President's oft-touted plans for sweeping tax cuts, deregulation and infrastructure investment hang in limbo.
On Wall Street, stocks are retreating, government bond yields have fallen to lows last recorded during the November election month, and Goldman Sachs has abandoned its long bet on the US dollar.
A partial US government shutdown next week is plausible due to a political fight over budget funding, a stalemate that would be more symbolic of the continuing paralysis in Washington than harmful to the economy.
Despite a slight rally in US bond yields and the greenback overnight, Bank of America Merrill Lynch analysts note that "key Trump trades are unwound".
"Our analysis suggests that the US rates market is pricing in the death of tax reform and not merely a delay," BoAML says.
Investors are being forced to face up to the reality that governing in Washington is harder than it seems, even with Republicans in control of the White House, the House of Representatives and the Senate.
Tax reform deadline 'too ambitious'
There is a reason the US has not achieved substantial tax reform since Ronald Reagan managed to herd the cats in Congress in 1986.
Trump's Treasury Secretary Steven Mnuchin admitted to the Financial Times this week that his original August deadline for tax reform is too ambitious.
In a related flip-flop, President Donald Trump confirmed he wanted to retry overhauling the Obamacare health insurance law before tax reform – an uphill battle in Congress, given the divide between arch-conservative lawmakers and Democrats.
The peculiarities of US budget accounting rules mean Trump will have more fiscal space to cut income and corporate taxes if Obamacare-related taxes and spending are axed.
"The renewed focus on healthcare has once again delayed tax reform efforts," Goldman Sachs economist Alec Philips says.
None of this means that tax cuts – for which the markets have been lusting – are dead. But they are likely to be far more modest and take longer to deliver.
Confidence in Trump
The chief executive of investment bank Morgan Stanley, Australian James Gorman, expressed confidence overnight that Trump would ultimately deliver some cut to the 35 per cent corporate rate, but not to the 15 per cent-to-20 per cent range Trump earlier touted.
"It appears likely, whether it's this year or next year, that there will be movement on that rate," Gorman said, after unveiling a better-than-expected first-quarter profit of $US1.93 billion.
"I suspect it will be a little more modest than the numbers that have been thrown out, but anything sub-30 per cent is positive."
Trump's economic advisers, spearheaded by former Goldman Sachs executive Gary Cohn, are drawing up their own tax plan.
The original House Republican "border adjustment tax" (BAT), which would favour exports over imports, is struggling to win friends in the Senate and has divided the business community.
Without the $US1 trillion in revenue the BAT is forecast to raise over a decade, debate is raging about whether Republicans will abandon revenue-neutral reform and increase deficit spending.
Debt blow-out
A blow-out in debt and deficits could trigger a sudden jump in the US dollar and bond yields.
For now – with the policy path unclear and subdued US economic data of late – interest rate traders have cut the chance of a US interest rate rise in June to 44 per cent.
The yield on the 10-year Treasury bond is about 2.21 per cent, down from 2.6 per cent in March.
After rallying more than 10 per cent since November 8, the US S&P; 500 is down 2.2 per cent since its March 1 record high.
A record 83 per cent of investors believe US stocks are overvalued, according to a BoAML April fund manager survey.
Roadblocks in Washington are forcing investors to refocus on economic fundamentals and corporate earnings results.
The "soft" economic data, such as confidence of consumers and business, is booming.
However, it has not translated into the "hard" economic data, such as vehicle sales, retail sales and GDP, which have been disappointing in recent months.
Reassuringly, the US Federal Reserve's "Beige Book" reported overnight that economic activity expanded modestly to moderately between mid-February and the end of March. It noted a tight labour market propping up wages, but mixed consumer spending.
Away from economic fundamentals, PNC Asset Management Group global chief investment strategist Bill Stone says markets will continue monitoring "geopolitical tensions" with North Korea and Syria.
