Markets
US equities fell Tuesday, S&P down 1.3%. US 10yr yields up 15bps to 2.55% after Fed Governor Brainard quoted Paul Volcker on runaway inflation and called for a rapid reduction in the Fed's balance sheet (more below).
2yr yields were up 9bps, taking 2s10s back into modestly positive territory. Germany 10yr bunds were up 11bps to 0.61%. Oil was down 1.7%.
Equities sold off after Fed Vice Chairman-to-be Lael Brainard made more-hawkish-than-anticipated comments on the pace of balance sheet run-off sending the UST 10y yield higher.
Nothing was a smoking gun, but it was all about the Federal Reserve on course for an aggressive rate hike path in the near term. So, with the hawkish Fed back nipping at the heels of stock market investors, US stocks fell overnight.
Financials were a relative outperformer (on the margin) despite the risk-off move in the tape. The massive movement in the US 10y +16bp and the steepening in the 2s10s overshadowed the stagflation worries-tilt to the rest of the tape.
Meanwhile, the market might have been looking for Fed Governor Brainard to at least give more balanced remarks. Instead, they were at the hawkish end of the spectrum from someone like Brainard. She was not overly hawkish, but neither did she offer anything for the doves to cling to.
Liquidity remained poor, and no one seemed willing to take the other side as air pockets were becoming easier to find these days.
Oil
Reports suggested the EU planned to propose a mandatory phase out on coal imports from Russia, with details still under discussion. The EU was also expected to ban most Russian trucks and ships from entering the bloc.
Oil was a tad lower as the market interpreted the proposed sanctions only on coal while leaders remained split on handling Russian crude. However, US National Security Advisor Jake Sullivan also said Washington will announce more sanctions on Russia this week, including more oil penalties.
A call for a coordinated SPR release by the United States last week fell on deaf ears, with no OECD country joining the initiative so far. Although the Japanese Industry Minister said that the details of the IEA-led release from reserves were still being worked out, keeping a lid on oil prices.
Forex
Central banks continued to try and walk the line between fighting inflationary supply shocks on the one hand and not exacerbating growth or demand shocks. Europe seemed to have the most significant difficulty balancing the two, so the ECB minutes on Thursday will be in sharp focus.
They follow the latest FOMC minutes due later today. On that call, and considering Vice-Chair Leal Brainard's comments yesterday as a plate warmer, we should expect hawkish FOMC minutes where a quicker pace to the balance sheet run-off will be the focus.
AUD
The AUD rates market underperformed in the wake of a less dovish RBA.
Economists are now expecting an RBA rate hike in May or June. Still, a shoulder shrug for traders as the AUD has been one of the best performing G10 currencies over the past month, reflecting improving terms of trade and more aggressive RBA pricing, with a cash rate of around 3.25% priced by the end-2023.
However, the rates markets were second-guessing themselves, and for good reasons. A 3.25 % cash rate would lift the mortgage repayment share of income for a new borrower to an equal record high of 35% (70% pre-tax) and drive a housing price downturn, consequently sending the economy into recession and triggering an RBA "stop out."
Fortunately for AUD bulls, the rate hike channel was only one of the long AUD trade elements. Still, the terms of trade were a significant driver and should support the AUD on dips, especially with China looking to toggle the policy lever favorable to commodities.
JPY
BoJ Governor Kuroda's comments to the Japanese parliament overnight that recent moves in FX rates seemed rapid saw USD/JPY sell-off from 122.80/90 down to a low of 122.375 before finding a base and bouncing. Official comments may elicit a kneejerk reaction on the spot, but the risk of any change in policy from the BoJ or actual intervention in FX markets would be limited.
With both US yields and energy prices continuing to grind higher, USD/JPY should remain supported on dips.