Markets
Overall sentiment remained upbeat once more yesterday, thanks to Germany extending the wage support programme until the end of next year and strong US durable goods orders. Core bond yields were mainly oriented upwardly. However, comments from US Chief of Staff Meadows suggesting a new fiscal boost isn’t going to happen before end of September, triggered an intraday reversal. The move was at least partially technically inspired too with core bond yields earlier testing but failing to push through first resistance levels (Germany 10y: -0.40%, US 10y: -0.70%, August highs). Oil prices retracing some of the previous (production outage driven) gains also weighed on yield’s upward momentum. The US curve bear steepened with yields advancing 2 bps at the long end. German yields largely ignored comments from hawkish ECB member Schnabel, who said that the pandemic might offset some of negative rates’ beneficial effects. Yields rose 1.2 bps (2-yr) to 2.6 bps (30-yr). The dollar held up well initially. The reversal in core bond yields however forced the greenback back in the defensive. USD/JPY once again gave up gains above the well-known 106. EUR/USD eventually closed only slightly lower, from 1.1835 to 1.183. That’s despite a heavy trading euro as was visible in EUR/JPY (capture of 126 failed) and especially EUR/GBP. The latter slipped from 0.90 to 0.895, thereby hitting key support (lower bound of triangle consolidation pattern).
Asian sentiment is mixed ahead of a key speech by Fed chair Powell. Geopolitical tensions over China performing military actions in the South China sea dampen the mood. South Korea underperforms after the BoK cut growth forecasts. Core bonds trade flat. The yuan trades strong. USD/CNY broke below 6.90 yesterday with the pair retaining losses today (6.88) despite rising tensions. EUR/USD is going nowhere in the 1.183 area as is USD/JPY (106).
With Fed chair Powell’s speech at the (virtual) Jackson Hole Symposium due later today, US jobless claims are of secondary importance. Powell is expected to announce a form of average inflation targeting by formally embracing the symmetrical inflation objective. The recent rise in US yields, driven by increasing inflation expectations, suggests markets are at least preparing for this new commitment. At the same time, an overall dovish Powell will probably anchor real yields at historically low levels (US 10y real yield at -1.05% currently). This ongoing divergence is likely to hold nominal (US) yields more or less in check, maybe slightly tilted to the downside. The 10y yield’s test of the upper bound of the sideways trading range failed yesterday, making room for some losses from a technical perspective. EUR/USD is trapped in an upward trending consolidating (triangle) pattern with the lower bound well protected. Dollar gains are difficult when a soft Fed is set to keep rates low for a long time while striving for a period of higher inflation. The lower bound (92.52) in DXY might be heavily tested. After yesterday’s good run, we think sterling gains are trickier from here. EUR/GBP is at key support levels and is now watching BoE governor Bailey’s speech tomorrow for further impetus. Retaining the possibility of negative rates could trigger a (technical) correction lower in sterling.
News Headlines
The Bank of Korea kept its policy rate unchanged at 0.50%. The central bank downgraded the 2020 growth forecast from -0.2% in May to -1.3%, with uncertainties being very high amid the rising number of COVID-19 cases and national floods. The BoK simultaneously raised inflation projections because of supply-side effects. Governor Lee indicated room to cut rates further while showing readiness to engage to bond buying should yields become volatile. The Korean won barely moved, trading around USD/KRW 1185.
The US Department of Commerce enforced visa restrictions on several Chinese companies because of their support to reclaim and militarize disputed outposts (in the South China Sea). Tensions escalated with China launching missiles into those same disputed waters. A US vice navy vice admiral said the US stands ready to respond to the muscle flexing, but as long as they’re doing it in accordance with international law and norms they have every right to do so.
