Markets traded mixed today, with Asia and US futures reversing earlier gains. The focus remained on yields, with Treasuries a bit weaker following another jump in crude oil prices. Higher Treasury yields are tempering optimism over President Joseph Biden's $1.9 trillion pandemic relief plan and the economic growth outlook. Tech shares slid, and China led the regional retreat with the CSI 300 tumbling some 3%. HSI-1.5%.
But honestly, the last thing anyone wants in a recovering global economy is higher oil prices, and we are likely nearing a point when higher oil prices become a negative rather than a positive influence over risk assets.
The Senate passed Biden's $1.9 trillion fiscal stimulus package on Saturday. The House of Representatives is expected to approve the changes on Tuesday. And while this isn't much of a surprise, but still, the confirmation of the largest-ever fiscal package should provide further short-term support for US yields.
China media Yicai—controlled by Shanghai city government—published a front-page commentary saying that as the PBoC normalizes monetary policy this year, it's unlikely that benchmark rates or the reserve requirement ratio will be cut again for banks, while less credit and stabilization of leverage will be the central policy theme in 2021. They cited onshore experts interpreting the National People's Conference (NPC) work report, which highlights the vulnerability of Chinese Stocks and global growth assets to the slightest hint of policy withdrawal. Indeed, this can't be good for commodity markets coming on the heels of a very unambitious GDP target announced at last week's NPC.
The market risk is not that the Fed is not dovish enough in pushing back on the rise in yields. It is rather that the Fed is at risk of falling behind the curve. Bonds reacted to FOMC comments that upcoming inflationary pressures would come from base effects and the potential surge in consumer spending as economies reopened. But even with inflationary pressure coming for improving fundamentals, the Fed would still be biased to question whether it was only transitory. While the Fed could be correct, this still heightens inflation risk premium if they are wrong, and the higher it goes, the higher that risk becomes.
EU Vaccine Roll Outs
European Commission President Ursula von der Leyen on Sunday noted that she expects 100 mn Covid vaccine doses next month and a total of 300 mn by the end-June. This means that most adults should get their first dose by then. I think this means that investor sentiment towards Europe will improve markedly over the next few weeks for the market. Herd immunity and every adult being vaccinated will be a crucial topic into the summer and should slow the EUR/USD selling pace to a degree.
Forex
The dollar is stronger for no other reason than FX traders aren't buying what the FED is selling.
The US 10-year yield was 1.58%, up 3bp today and up 17bp in the past week. Today's yield gain reflects two features: a 2% gain in oil after a missile attack on a Saudi refinery and the passage through Congress of US President Biden's $1.9 trn stimulus plan. The 2/20 spread is 1bp steeper at 143.9bp, out 16bp in the past week. Of the 3bp gain in the 10-year nominal yield Monday, 1bp comes from real yield and 2bp from break-even.
And supporting the US dollar, the eurodollar rates futures strip remains under pressure, down one to two ticks in the 2021 and 2022 contracts, and down three to four ticks in the 2023-2024 deals. In other words, the market continues its repricing of Fed policy: higher, faster, sooner.
The street's short dollar recommendations came under further pressure over the past week on remarks from Fed Chair Powell and Friday's solid jobs report.
Ultimately, the US dollar's fate is all about repricing the Fed hikes. When FX traders start bringing forward rate hikes to the next two years, this matters for the US dollar hence the pivot higher.
More significant pushback from other central banks (RBA, RBNZ, ECB) to their respective bond markets over the last week than the Fed provided has given reason for the dollar move to broaden out.
Brent crude was up 2.6% early in Asia, which could boost UST yields
With the US stimulus package very much baked into the cake, the robust economic data inputs are trying to hold the risk on an even keel amid very mixed risk signals. But now that we are in a FOMC self-imposed blackout period with markets left to their own devices, investors don't know what to do with themselves as improving activity provides some comfort to higher yields. However, the street can't stop looking over their shoulder at the impending inflation storm clouds gathering in the distance.
But also hurting sentiment in Asia is China media Yicai's front-page commentary, as mentioned earlier.
Brent crude is up 2.6% early in Asia, which could boost UST yields from an inflation perspective. The positive impact on prices of a more hawkish-than-expected OPEC+ outcome last week, after it left the bulk of its supply curbs in place, is exacerbated by supply concerns following attacks by the Houthi rebels on the Ras Tanura port in Saudi Arabia on Sunday.
Asia Forex
The throughput of higher oil prices for Asia FX suggests the INR's outperformance over the past week could be reversed by the negative impact of higher oil prices on India's current and fiscal deficits.
Asia EM FX, which also got hit on higher oil besides INR, include THB and PHP, and I've turned negative in this environment of higher oil for those local Asian currencies.
Gold
The interest rate pressure is likely to be a more extensive and nearer-term factor than the positive force of expected inflation on gold.