FX Update: USD rises to top as energy and yield spikes crush sentiment.

FX Trading focus: USD rises to top on energy crunch and as yields rushing higher

Markets are finally getting a case of bad nerves as the yield spike has now reached critical proportions, with key points on the US yield curve hitting above important thresholds as we discussed on this morning’s Saxo Market Call podcast, including the 5-year smashing above 1.0%, the 10-year hitting above 1.5% and the 30-year T-bond looking back above 2.0%. The move may be a delayed one showing some sympathy with the remarkable resurgence in energy prices, not only the wild rise in natural gas and power prices which will already crimp growth and earnings in energy-intensive sectors, but also in crude oil in recent days.

Whatever the cause, market sentiment is stumbling badly again today after a finally rolling over yesterday, taking the US dollar broadly higher. The JPY weakness has been somewhat less broad this morning as cratering risk sentiment partially offsets the focus on the ever-JPY negative rise in yields. Keep in mind that energy prices are a headwind for the JPY as well due to the country’s total reliance on fossil fuel imports. Elsewhere, the currencies most sensitive to risk sentiment are under pressure, including SEK and interesting NZD, where position squaring in AUDNZD may be the driver, given that the Australian yields at the shorter end of the curve are rising in sympathy with rising yields elsewhere, while “already risen” NZ yields are flat over the last several trading sessions. The low in AUDNZD may have arrived more quickly than I expected, given I can’t conceive of anything beyond the current backdrop that would make the Aussie look worse versus the Kiwi than is the case right now: collapsed prices for Australia’s main commodity exports, a dovish central bank, a locked down economy, etc.

Elsewhere, the US congress is not helping sentiment as Senate Republicans rejected to proceed with a Democratic initiative to raise the debt ceiling. Some scale of government shutdown after Thursday seems likely and the drama around the US fiscal situation could peak on that day as well, with a vote set for the infrastructure bill in the House (with no room to pay for it without the debt ceiling being raised…).

Chart: GBPUSD set up for a notable failure?
EURGBP settled lower in the wake of the German election, perhaps on the anticipation that a weak mandate from an awkward governing coalition will keep any EU fiscal revival at bay (more below – longer term, this will likely prove the wrong interpretation). The weaker EUR and drop in EURGBP likely helped spark a degree of resilience in GBPUSD even as the US dollar firmed on rising yields. But now the pair is looking heavier and could be set for a test of critical support zone into 1.3600 and just below that has held the pair up since the summer. A break could set up a test of the huge 1.3500 area, but arguably even a run toward 1.3200 or even lower if we are set for an extended correction in equity markets.