Written by Convera’s Market Insights team
Dollar supported by surging yields
Expectations that the Federal Reserve’s (Fed) rate hike cycle might be at an end continues to keep front-end yields anchored. But the growing view that global central banks will keep rates higher for longer, fuelled in part by strong US economic data, rising Treasury supply and surging oil prices are pushing three-, five-, and 10-year yields to the highest since 2007. The high-yielding US dollar remains supported near 11-month peaks.
Flows into the dollar are being supported by attractive interest rates. As long-term Treasury securities continue to slump, the yield on the 10-year note keeps printing fresh cycle highs and may soon hit 5% as relentlessly strong economic data underscores the resilience of the US economy. US job openings climbed to 9.61mln in the month of August, rising by 690,000 from the previous month and well above the market consensus, indicating a robust US labour market and further complicating the US recession call for 2024. Markets are currently pricing in about a 40% chance of any additional rate hikes by the Fed in this cycle, and those odds have been declining, but the current pricing of 60 basis points of cuts next year is more than half of what was priced back in early August.
All this supports further US dollar strength, but there’s a big caveat to consider and that’s intervention by the Bank of Japan (BoJ). Yesterday saw USD/JPY drop from ¥150 to near ¥147 in a flash. Although the pair has since rebounded, if Japan continue selling dollars aggressively to defend the yen, we might witness a sharp drop in the dollar index, which would have wider implications across financial markets.
George Vessey – Lead FX Strategist
Positioning woes for sterling
Whilst GBP/USD has fallen around 8% since its summer high, GBP/EUR has fallen approximately 2% from highs registered at the same time. This reflects the US dollar’s dominance overwhelming its G10 peers. But the pound’s recent performance across the G10 space overall has been one of the worst, suggesting domestic UK factors are also contributing to its weak position.
The rout in bond markets is causing the most upheaval across financial markets with equities sliding and currency volatility spiking, but we also note that the majority of currency trading volume that generates volatility is via traders speculating on whether a currency will rise or fall. Observing speculative positions on US futures and options markets is therefore important. Long GBP positioning reached a 16-year high in July when GBP/USD peaked around $1.31. However, these bullish bets have since been unwinding and more than halved after the BoE surprised markets by leaving rates unchanged. Yet there is scope for more unwinding and net positioning flipping negative, which poses additional downside risk for GBP/USD in the short-term. The $1.20 level is likely a psychological support, but if this breaks, we could see $1.18 trade before the month is up.
We are wary of Japanese intervention to support the weak yen though, as mentioned above. This could be the catalyst to thwart further USD strength. At the same time, it leaves GBP/JPY vulnerable though. Around this time last year, GBP/JPY and EUR/JPY plunged circa 4% in one day when the BoJ aggressively sold dollars for yen.
George Vessey – Lead FX Strategist
No relief for an unattractive euro
The relentless selling of government bonds across the world has pushed equities and the euro down this week, with EUR/USD falling below $1.0470 and on track to record the twelfth weekly depreciation in a row. The European stock benchmark Stoxx 600 is now trading around 11% lower than at its peak reached at the beginning of 2021. The euro’s year-to-date drawdown has extended to 2.2%, after having risen by 5% in the first half of this year.
Recent speeches from ECB Governing Council members have not helped the common currency as markets continue to expect the central bank to be done raising rates. Chief economist Philip Lane said that maintaining the current level of interest rates would be his base case and that inflation should eventually return to the two-percent target. However, Finish policy maker Tuomas Valimaki did not want to close the possibility of more tightening, saying how upside surprises to inflation could increase the need for more rate hikes.
Today’s focus will lie on European composite PMI numbers and retail sales. Some policy makers are scheduled to speak at an event as well, which could give us more insight into the thinking of the ECB. However, we don’t expect any significant market moving phrases here, as no significant data has come out since the last meeting.
Boris Kovacevic – Global Macro Strategist
Risk aversion sees equities and pro-cyclical FX slump
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: October 2-6
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
