Markets
It appeared that here is a thin line between market euphoria about a quick economic recovery fueled by intensive cooperation between fiscal and monetary policy on the one hand and fear that central banks will have to retrace on their commitment to support this cooperation for a prolonged period of time. Fed ‘s chair Powell earlier this week downplaying the risk of a protracted inflation overshoot and welcoming the rise in yields as a sign of economic confidence, wasn’t enough to prevent a further sharp repositioning. Eco data were only anecdotical to this broad market move, but strong US durable orders and better than expected US jobless claims only added to the market feeling that there might be too much stimulus around. The bond selloff accelerated with a very poor 7 year US bond action (record low bid-to-cover of 2.04, low indirect reward, awarded at 1.195% vs WI of 1.151%). The US 10-Y yield briefly jumped to 1.60%. 5-year yield jumping above the 0.75% mark and the 10-y real yield gaining about 20 bp were ever more signs that markets are repositioning for the Fed to backtrack on its commitment to keep rates low for (very) long. The US yields rose between 22 bp (5-y), 14 bp for 10 & 30-y and 5 bp for the 2-y. The rise in German yields were substantial with yields rising between 3 bp (2-y) and 7.2 bp (10-y). Intra-EMU spread widened mostly (up to 4 bp for 10-y Greece and Italy). The bond selloff also disturbed the reflationary dynamics on the equity markets.Even the stocks that recently profited from the reflationary narrative (financials, energy) couldn’t withstand the rise in overall volatility. US equities declined between 1.75% (Dow) and 3.52% (Nasdaq). The dollar reversed an earlier move down. The trade-weighted dollar rebounded to close north of 90 (90.13). EUR/USD failed to hold a break above 1.22 and closed at 1.2175. The sharp rise in volatility has called an end to the recent impressive sterling rally. EUR/GBP rebounded further from the 0.86 area to close at 0.8685.
Volatility also spills over to Asian markets this morning. The bond selloff forced the RBA to an unscheduled operation to buy an additional A$3 bln of 3-y bonds. The operation helped the cap the 3-y yield but the selloff at longer maturities continues (10-y at 1.92%, +18 bp). Asian equities are losing up to 4% (Nikkei). The dollar retains the benefit of the doubt with the TW DXY rising to 90.35. EUR/USD drops to 1.2150. Even so, safe haven gains for the US currency could have been more outspoken given the sharp rise in volatility across almost all markets.
Today’s calendar contains the US PCE inflation data, which are expected to remain soft (1.4% Y/). However, it is unlikely that this report will change market thinking on inflation risk further down the road. The rise in US yields has (at least temporaril y) halted in Asia this morning. However, as long as the debate on big US fiscal stimulus persists, the risk for further core bond selling probably remains elevated. 1.60%/1.68% is next short-term reference for the US 10-y yield. Yesterday’s failed break above 1.2190, is disappointing for USD bears. Further return action toward the 1.2023/11 support might be on the cards. For EUR/GBP, a return above 0.88 would call-off recent rally of sterling.
News Headlines
US Pentagon press secretary Kirby released a statement saying that at US President Biden’s direction, US military forces conducted air strikes against infrastructure utilized by Iranian-backed militant groups in eastern Syria. The operation -” Biden’s first -” is a retaliation against for recent attacks against US and coalition personnel in Iraq.
Several Fed speakers commented on the recent volatility on bond markets. They strengthen US Fed Chair Powell’s message before Congress. St. Louis Fed Bullard called it “probably a good sign” because it does reflect a better outlook for US economic growth and inflation expectations which are closer to target. He added “not to go ahead of ourselves with regards to policy change/normalization”. Similar comments came from Kansas City Fed George and Atlanta Fed Bostic, who isn’t worried. He added that the goal is full employment, not full GDP. NY Fed Williams expects the strongest GDP growth in decades this year, but thinks that underlying inflation is likely to remain subdued for some time.
