Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
FX Update: Tough to keep USD down if yields remain here or higher.
John J. Hardy
Chief Macro Strategist
Summary: A wild few days in equity markets have distracted FX traders, with risk correlated USD pairs jolted around on the swings in sentiment, but USDJPY traders haven’t lost sight of the most important ongoing background factor: US treasury yields remain elevated and near the highs for the cycle, making any further broad USD downside difficult as long as they remain here or higher. Elsewhere, we are noting increased breadth in CNH weakness.
FX Trading focus: Amidst the noise in risk sentiment, the signal is high US treasury yields.
US equities rose some 9% from the lows at the start of this week at one point yesterday, a move that coincided with a few wobbles in the US dollar, especially against the usual risk-correlated currencies. USDJPY, on the other hand, has hardly wobbled outside of an intraday spasm yesterday, as the focus there remains on higher US yields, with the 10-year Treasury benchmark posting a modest new cycle high just this morning. And well they should, in fact USD traders should keep both eyes on treasuries, because risk sentiment will not likely sustain any further recovery if yields remain here or head higher.
Overnight, rhetoric from Bank of Japan Governor Kuroda did nothing to bring the weak JPY any support, as he pushed back against “excessive” and “one-sided” moves in the JPY while at the same time saying that a weak, stable JPY is a net positive for the country. Another BoJ official defended the current negative short rate and yield-curve-control (YCC) policy, predicting that inflation would fall back even if it is set to persist rising through the end of this year. That leaves all of us to guess at what point the USDJPY rate is deemed too one-sided and excessive and will see futile billions thrown at the market – best guess is somewhere not far above 150.00, but let’s see.
Elsewhere in Asia, the broadening CNH weakness is notable, as we see USDCNH posting new cycle highs today, and well on its way to doing so earlier in the session before today’s USD rally got under way in earnest. A look at other CNH crosses shows that the currency is on the move, and an expansion of this move could unsettle global markets as it drives concerns that China is exporting deflation.
Chart: GBPUSD
GBPUSD correcting back lower, as the last two rallies found resistance just ahead of 1.1500 and more recently, just below 1.1450. The next focus lower is the 1.1150 area and then the psychological 1.1000 level and 1.0923 nominal low. Any new broad, risk-off move could see 1.0800 and lower levels coming quickly into view, as we have argued that the fundamental outlook for sterling has been stabilized, but that stability doesn’t necessarily lead to strength.
As I am writing today’s update, a chaotic PMQs (Prime Minister Questions) session in the UK House of Commons shows the massive pressure Prime Minister Liz Truss is under as she may be in the final weeks, if not days, of her time in office. The recent chaos in UK gilts market and sterling that have forced a reversal of the majority of her budget-busting initiatives means that the imperatives of fiscal austerity are in the driver’s seat for now. New Chancellor Jeremy Hunt is setting the agenda, with the latest a possible move to assess windfall tax on banks’ and energy companies’ profits. Whether Truss survives may be largely immaterial to the backdrop and we have to remember that tight fiscal is a currency negative, with a Bank of England unable to providing any real offsetting support, given the ugly UK recession that is heaving into view.
Table: FX Board of G10 and CNH trend evolution and strength.
While the JPY still features the weakest reading among the major currencies, the broadening CNH weakness is a newer and far more impactful development. Curious to see if the AUD catches some further contagion on this as well.
Table: FX Board Trend Scoreboard for individual pairs.
As noted yesterday, have a hard time believing that we are in a new uptrend in GBPUSD – that would require a rally clear of 1.1450-1.1500 – note levels above in the GBPUSD chart. Elsewhere, likewise having a hard time with the idea of even an AUDJPY up-trend with CNH on the move south… if it achieves a new up-trend, will likely be more to do with JPY weakness rather than AUD strength. Elsewhere, EURCHF continues to tease in the important 0.9800 area.
Upcoming Economic Calendar Highlights
- 1230 – US Sep. Housing Starts & Building Permits
- 1230 – Canada Sep. CPI
- 1300 – UK Bank of England’s Cunliffe to testify
- 1700 – US Fed’s Kashkari (Voter 2023) to speak
- 1700 – US Treasury auctions 20-year T-notes
- 1800 – US Fed Beige Book
- 2230 – US Fed’s Evans (Voter 2023) to speak
- 2230 – US Fed’s Bullard (Voter) to speak
- 2350 – Japan Sep. Trade Balance
- 0030 – Australia Q3 NAB Business Confidence
- 0030 – Australia Sep. Employment Change/ Unemployment Rate
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