Please attribute the following commentary to Stephen Innes, a senior trader at OANDA. For direct comment, call Stephen at firstname.lastname@example.org.
US Bond Yields Rip Higher
The US economic data was mixed overnight; regardless US 10-year Treasury yields ripped higher settling in near 1.85 %, the highest level since May. Despite German yield outpacing the US Bond market move, the USD came out on top. It diminished expectations of more stimulus from the ECB and BOJ after recent warnings about the systemic risks of running low-interest rate policies for too long. With traders anticipating a similar tack from the Federal Reserve Board in consort with their G-3 Central Bank colleagues, the Greenback made steady headway overnight.
In a market that has grown accustomed to caution over valor in the run-up to the November US elections, traders are guardedly peeking into the markets’ underpriced US interest rate path to normalisation in 2017 and placing some bets in these underweighted trades. The market was swamped overnight by a confluence of dynamics and realisations; ECB extension in December is mostly likely to go, near term Brexit risk is fading and the US elections risk, appears to be easing, all of which are prompting traders and investors to emerge from their self-imposed election shell.
The AUD is struggling in the face of higher US bond yields, but that only paints one side of the speculative landscape. As pointed out yesterday; domestic deflation demons were unlikely excised by the stronger than expected CPI headline, especially in the face of the downside miss on the trimmed mean. While the sentiment is running near nil for an RBA rate cut next week, bets are increasing that Dr Lowe may address the CPI miss along with this month’s destitute domestic employment print in next week’s statement. Given the scope for repricing of RBA rate cut expectations lower, and coupled with breadth for the US curve to reprice higher, the Aussie could find itself at the mercy of diverging policy expectations. Add in the US election risk premium and the Aussie will likely struggle for traction near term.
USDJPY continues trading in line with the US yield curve. Overnight, US-10 year Treasury yields ripped higher, and USDJPY JPY was quick to hitch a ride, ploughing through the 105 level with little resistance. The USD is strongly supported by the expanding gap between the US and JPY.
The pair has been firmly supported on dips all week on the back of Fed December rate hike expectations. The current view is that USDJPY could grind higher in the coming days. At a minimum, we should expect an upward shift in the short-term range to 104.75-105.75. However, a near-term break of 106 still feels unlikely with the Fed Dec rate hike premium all but factored; it seems a poor risk reward for standing in front of the USD freight train suggesting traders will likely support dips to the 104.75-105 levels.
Also, the market is pre-positioning for a decent recovery in tomorrow's GDP figures with economists looking for a rise to 2.6 %. The dollar has remained on sound footing with tomorrow's print unlikely to alter the base case for a December Rate hike. Regardless, given how data dependent the Feds are, there is certainly room for a significant re-price that is lower on Fed hike expectations if the data produces another outlier on the downside.
On the data front, the headline and core CPI and unemployment figures came in as expected, and had minimal impact with global central bankers about to take centre stage next week. Let's hope we get some precise directions from both the BOJ and Fed who have been known to obfuscate.
The recent run of developed market yield curve steepening should have negative consequences on the Yuan vs. the dollar after the breach of the critical 1.8 % 10-Year US Treasury yield, it's certainly being noticed. However, given the market's current tangent, we should expect an uptick in near-term volatility after the USD broke convincingly higher overnight.
PBOC headlines will play a factor in the equation too. Looking for tops to short could be a fool’s game as "the trend is your friend" mentality takes hold. The market is undoubtedly positioning of a test of the 6.80 level.
The PBOC fixing came in line with expectations at 6.7858 and has induced some weak longs to exit positions. However, the pair is tentatively supported on dips to 6.79.
The susceptible low yield Korean Won, surged to 1148 overnight, as EM Asia remain pressured by increasing US bond yield, with the next critical level 1150 in traders cross hairs. However, a near-term test of that level is expected to be a bit of a grind as export offers are likely layered below the critical 1150 level.
The SGD is again pressing against resistance at 1.3950-60 with a move higher all but inevitable, given the steepening US yield curve and the current trajectory in USDCNH. The SGD has strongly correlated with China’s currency policy in the past so, in the absence of PBOC’s intervention, the path of least resistance appears to be higher USDSGD. But the China daily fix will need to be carefully monitored.
The Ringgit has followed the general Global EM theme where investors continue to reassess the underlying EM FX Asia drivers in the wake of the global bond yield curve repricing. Given the uncertainty in the oil patch, along with higher US yields, picking tops in the space will be a tricky game between now and election day.