Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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Treasuries bounce turns US dollar
John J. Hardy
Chief Macro Strategist
Summary: US Treasuries found support Tuesday with the rally cutting off the concurrent USD surge. Auctions of longer-dated Treasuries are up today and tomorrow, and this is likely to be the key arbiter of USD direction at present.
US Treasuries found strong support yesterday as the equity market pushed lower as well, though the latter recovered somewhat in late trading yesterday, begging the question of which market is driving the action. With the recent break of the long US yields higher, we lean toward treasury yields as the dominant market factor here – though yesterday’s action could be a microcosm of what might happen if risk appetite suffers and especially bad downdraft – at some level, bonds find support as the market feels that an official response will be forthcoming.
In the meantime, it’s a scary dynamic if we revisit this recent episode of weak bond and equity markets simultaneously. Endless trillions in portfolios have been constructed with the assumption that the two markets are negatively correlated and even have a leveraged bond component in the portfolio in the case of many “risk parity” strategies.
The timing of the treasury rally is noteworthy, in that the US Treasury will auction both three- and 10-year debt today and 30-year T-bonds tomorrow. One of the more recent three-year auctions saw the weakest demand in some nine years, while the longer maturity auctions have gone off without much fanfare – though we are fresh highs in yields this time around.
In forex, the Treasury bounce drove a weakening US dollar, just after the latter had crossed to new highs here and there intraday. EURUSD dipped to new local lows, only to recover into the magnetic 1.1500 area on the combination of the US Treasury bounce and tamed Italian BTP market, where new highs yesterday in yields all along the curve were rejected later in the day.
We’ve had a couple of headlines that elevate concerns that US President Trump will unleash a fresh anti-China broadside in the coming days or weeks. The first is the story released by Bloomberg accusing China of shipping US-bound hardware that has been tampered with in an apparent attempt to spy on the US. Key companies like Amazon have denied the story (as Amazon was said to have deployed products that had been tampered with), but Bloomberg refreshed its original article with a fresh one late yesterday containing new accusations.
The other story was run yesterday in the Wall Street Journal detailing how some Chinese companies are avoiding US tariffs by changing codes on customs documents and via transhipments. These stories are far from likely to lead to any improvement in the US-China showdown over trade. The resignation of the US’ ambassador to the UN Nikki Haley has generated disquiet in some quarters as well.
Chart: EURUSD
EURUSD probed new lows below 1.1450 but bounced into the close, providing a sign of support for bulls looking to get involved again after the big rally from the 1.1300 base and then the disappointment of the false start higher above 1.1750 last month. Provided we have seen the lows here, we have a semi-upside down head-and-shoulders setup here with a neckline at 1.1800.
In the meantime, it’s a scary dynamic if we revisit this recent episode of weak bond and equity markets simultaneously. Endless trillions in portfolios have been constructed with the assumption that the two markets are negatively correlated and even have a leveraged bond component in the portfolio in the case of many “risk parity” strategies.
The timing of the treasury rally is noteworthy, in that the US Treasury will auction both three- and 10-year debt today and 30-year T-bonds tomorrow. One of the more recent three-year auctions saw the weakest demand in some nine years, while the longer maturity auctions have gone off without much fanfare – though we are fresh highs in yields this time around.
In forex, the Treasury bounce drove a weakening US dollar, just after the latter had crossed to new highs here and there intraday. EURUSD dipped to new local lows, only to recover into the magnetic 1.1500 area on the combination of the US Treasury bounce and tamed Italian BTP market, where new highs yesterday in yields all along the curve were rejected later in the day.
We’ve had a couple of headlines that elevate concerns that US President Trump will unleash a fresh anti-China broadside in the coming days or weeks. The first is the story released by Bloomberg accusing China of shipping US-bound hardware that has been tampered with in an apparent attempt to spy on the US. Key companies like Amazon have denied the story (as Amazon was said to have deployed products that had been tampered with), but Bloomberg refreshed its original article with a fresh one late yesterday containing new accusations.
The other story was run yesterday in the Wall Street Journal detailing how some Chinese companies are avoiding US tariffs by changing codes on customs documents and via transhipments. These stories are far from likely to lead to any improvement in the US-China showdown over trade. The resignation of the US’ ambassador to the UN Nikki Haley has generated disquiet in some quarters as well.
Chart: EURUSD
EURUSD probed new lows below 1.1450 but bounced into the close, providing a sign of support for bulls looking to get involved again after the big rally from the 1.1300 base and then the disappointment of the false start higher above 1.1750 last month. Provided we have seen the lows here, we have a semi-upside down head-and-shoulders setup here with a neckline at 1.1800.
The G-10 rundown
USD – US yield picture a key driver – higher yields generally seen as supportive for the greenback, provided the US yield rises are outstripping global counterparts. Watching those US Treasury auctions late today and tomorrow.
EUR – the euro finding some relief on BTP yields being tamed yesterday, and there is two-way risk on headlines linked to the ongoing budget forming process and whether the EU will take the unprecedented step of rejecting the budget. The dark horse would be the market simply deciding that a 2.4% deficit for 2019 is manageable. 1.1500 is clearly a pivotal level for EURUSD here.
JPY – the JPY suffering from mixed signals as risk appetite recovered to a degree, but lower bond yields generally a JPY positive. USDJPY perched near the pivotal 113.00 area in USDJPY again.
GBP – sterling rallied further as the two sides in Brexit negotiations are working on an intricate solution to the Irish border problem, with the latest spin that the Irish “backstop” could be removed, keeping the whole of the UK in the customs union as a backstop until the deal is worked out beyond the Brexit date. The other details are too intricate to go into here (and very dry), but the price action speaks for itself and we could be heading toward an announcement of further progress as early as next Monday.
CHF – EURCHF bounces back slightly and GBPCHF in a ripping rally. Broader CHF weakness more likely if EU core yields rise without an ugly decline in risk appetite.
AUD – the recent new lows in AUDUSD below 0.7100 not holding at the moment and we have a very well established descending channel going back months where each new major low yields to extensive backfilling. These chart formations don’t last forever and if the USD doesn’t stay firm here, the AUDUSD is one of the USD pairs at highest risk of a short covering squeeze.
CAD – USDCAD avoiding 1.3000 for now as we await the next leg of action in the US treasury market. 1.3000 is the upside swing level in a very messy chart.
NZD – AUDNZD trying to get interesting into the pivotal 1.1000 area. Not sure of the catalyst, but before the last few days we have seen a rather ripping rally in Australian mining stocks over the last few months.
SEK – relief on the EU existential front could provide some relief for SEK, and SEK bulls will want EURSEK to stay below 10.50. Political gridlock providing negative headlines, but don’t see the transmission of this into the economy or Riksbank outlook. Sweden’s September CPI to be reported tomorrow.
NOK – CPI up this morning as we look for the throwback rally in EURNOK to fade soon if global equity markets and EU existential risks stabilize. Surely we have an indication either way before the weekend on whether NOKSEK can take this 1.1000 level?
Upcoming Economic Calendar Highlights (all times GMT)
0600 – Norway CPI
0830 – UK Aug. Manufacturing Production
0830 – UK Aug. Visible Trade Balance
1230 – Canada Aug. Building Permits
1230 – US Sep. PPI
1530 – US Treasury Auction of 3-year notes
1615 – US Fed’s Evans (non Voter) to Speak
1700 – US Treasury Auction of 10-year notes
2200 – US Fed’s Bostic (Voter) to Speak
USD – US yield picture a key driver – higher yields generally seen as supportive for the greenback, provided the US yield rises are outstripping global counterparts. Watching those US Treasury auctions late today and tomorrow.
EUR – the euro finding some relief on BTP yields being tamed yesterday, and there is two-way risk on headlines linked to the ongoing budget forming process and whether the EU will take the unprecedented step of rejecting the budget. The dark horse would be the market simply deciding that a 2.4% deficit for 2019 is manageable. 1.1500 is clearly a pivotal level for EURUSD here.
JPY – the JPY suffering from mixed signals as risk appetite recovered to a degree, but lower bond yields generally a JPY positive. USDJPY perched near the pivotal 113.00 area in USDJPY again.
GBP – sterling rallied further as the two sides in Brexit negotiations are working on an intricate solution to the Irish border problem, with the latest spin that the Irish “backstop” could be removed, keeping the whole of the UK in the customs union as a backstop until the deal is worked out beyond the Brexit date. The other details are too intricate to go into here (and very dry), but the price action speaks for itself and we could be heading toward an announcement of further progress as early as next Monday.
CHF – EURCHF bounces back slightly and GBPCHF in a ripping rally. Broader CHF weakness more likely if EU core yields rise without an ugly decline in risk appetite.
AUD – the recent new lows in AUDUSD below 0.7100 not holding at the moment and we have a very well established descending channel going back months where each new major low yields to extensive backfilling. These chart formations don’t last forever and if the USD doesn’t stay firm here, the AUDUSD is one of the USD pairs at highest risk of a short covering squeeze.
CAD – USDCAD avoiding 1.3000 for now as we await the next leg of action in the US treasury market. 1.3000 is the upside swing level in a very messy chart.
NZD – AUDNZD trying to get interesting into the pivotal 1.1000 area. Not sure of the catalyst, but before the last few days we have seen a rather ripping rally in Australian mining stocks over the last few months.
SEK – relief on the EU existential front could provide some relief for SEK, and SEK bulls will want EURSEK to stay below 10.50. Political gridlock providing negative headlines, but don’t see the transmission of this into the economy or Riksbank outlook. Sweden’s September CPI to be reported tomorrow.
NOK – CPI up this morning as we look for the throwback rally in EURNOK to fade soon if global equity markets and EU existential risks stabilize. Surely we have an indication either way before the weekend on whether NOKSEK can take this 1.1000 level?
Upcoming Economic Calendar Highlights (all times GMT)
0600 – Norway CPI
0830 – UK Aug. Manufacturing Production
0830 – UK Aug. Visible Trade Balance
1230 – Canada Aug. Building Permits
1230 – US Sep. PPI
1530 – US Treasury Auction of 3-year notes
1615 – US Fed’s Evans (non Voter) to Speak
1700 – US Treasury Auction of 10-year notes
2200 – US Fed’s Bostic (Voter) to Speak
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