Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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FX Update: JPY and CHF diverging. What is driving the USD?
John J. Hardy
Chief Macro Strategist
Summary: Yesterday seemed to demonstrate that Fed hawkishness at the margin will only register on the US dollar if risk sentiment weakness as the US dollar largely ignored the US jobs report implications for Fed rate hikes on Friday, only to rise yesterday in the midst of a strong wave of risk aversion that was then reversed later in the day. Elsewhere, JPY resilience while the Swiss franc stumbles is providing an interesting study in contrasts.
FX Trading focus: USD responds to yields only when risk sentiment also spooked
On Friday, the US jobs report suggested a US economy that is essentially at full employment (low payrolls growth combined with plummeting unemployment rate and hotter than expected earnings rises) and yet the US dollar largely shrugged off the development even as Fed expectations ratcheted a bit higher still, a move that has continued this week, together with fresh rises to new cycle highs at the long end of the US yield curve to new post-pandemic outbreak highs, even if yesterday saw a slight taming of the move. The latter comes ahead of key auctions for 10-year T-notes tomorrow and 30-year T-bonds on Thursday. Yesterday seemed to show that the US dollar is only reactive to the rise in yields once it spooks risk sentiment more broadly, as the day saw a sharp deleveraging in equity markets (and risky assets like Bitcoin/crypto) that coincided with a USD rally before both developments reversed. The takeaway? The USD seems to only thrive at the moment during a liquidity/deleveraging pinch.
Elsewhere, the JPY has picked up a solid bid since it stumbled at the start of the year, especially noteworthy after its recent weakness that seemed linked to yield rises. More in the USDJPY chart discussion below. Elsewhere, the Swiss franc weakness is very interesting given the backdrop as the SNB intervened more heavily last week as seen in the most recent SNB weekly sight deposit data released yesterday. The sharp rally has possibly set up a cycle low in EURCHF on that front and has already challenged the key 1.1500 level, a major low from back in 2020 and the next level of note the August 2021 pivot low around 1.0700.
Chart: USDJPY
USDJPY burst above the 2021 high near 115.50 at the start of this year, but that upside has quickly faded even as Fed rate expectations and longer US treasury yields have pulled higher in recent sessions, an interesting contrast with the usual coincident behaviour. We’ll be watching how this develops as the yen, after yesterday’s broad rally, especially during the worst of the wobble in risk sentiment yesterday, seemed to be paying more attention to risk appetite than the normal lockstep reaction to US treasury yields. The 115.00 area looks pivotal. A number of other JPY crosses saw partial confirmation of bearish chart setups (EURJPY and AUDJPY, for example) yesterday – also watching these as the recent highs are important lines in the sand.
Today looks like another test for how reactive the market and the US dollar are to Fed expectations as two hawkish FOMC voters (Cleveland Fed’s Mester in TV interview later today and KC Fed’s George with a speech on the economy and monetary policy) are out speaking today, with now hawkish Fed Chair Powell set for a nomination hearing today. The prior four trading sessions have seen about 15 basis points added to the year-ahead Fed funds rate expectations without major market reaction and major banks are marking the Fed to four or more rate hikes this year. The next step would be either more aggressive QT than anticipated or rate hikes of larger than 25 basis points.
In Australia, not surprised to see a blowout November Retail Sales record as Aussie consumers were unleashed from lockdowns and the Trade Balance has come tumbling off the record surpluses of last year, a development that will likely extend as the Australian economy normalizes.
Table: FX Board of G10 and CNH trend evolution and strength
The most interesting developments here are in the recent momentum shifts as the JPY has picked up a strong bid from new lows near the beginning of the year while the CHF has stumbled badly over the last week, particularly yesterday.
Table: FX Board Trend Scoreboard for individual pairs.
Given our focus on CHF vs. JPY relative developments in today’s update, interesting to note that CHFJPY is already trying to flip negative today after a spectacular run higher into the beginning of this year.
Upcoming Economic Calendar Highlights (all times GMT)
- 1100 – US Dec. NFIB Small Business Optimism
- 1300 – ECB's Kazaks to speak
- 1412 – US Fed’s Mester (voter) to speak on Bloomberg TV
- 1430 – US Fed’s George (voter) to speak on economy and policy outlook
- 1500 – US Fed Chair Powell re-nomination hearing
- 0130 – China Dec. PPI
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