No stopping the mighty dollar, rising US yields provide fuel
Stocks struggle for altitude amid Fed and China worries
All eyes on US CPI data this week - peak inflation at last?
There’s no stopping the mighty US dollar, which continues to slice its way through the currency complex. Stress in equity markets, worries about a synchronized global economic slowdown, and the relentless grind higher in US yields continue to drive up demand for the reserve currency.
Once the dust from last week’s Fed meeting settled, markets concluded that by not acting with sufficient force now, the central bank would need to do even more later to tame inflation. Treasury yields at the longer end of the curve stormed to new highs, which suggests bond traders are increasingly concerned about a Fed policy mistake.
The US jobs report did not change much. Nonfarm payrolls overcame expectations but every other metric was a shade softer than projections. Overall, the labor market remains the bright spot in the economy, underscoring the need for the Fed to keep its foot heavy on the brakes.
A half-percentage point rate increase at the next meeting in June is fully priced in and money markets imply an 80% chance for a larger, 75 basis points hike - even though Chairman Powell effectively ruled that out.
Stock markets under pressure
The shellacking in equity markets shows no signs of abating, with the combined forces of rising interest rates, slowing global growth, and a furious race to cut leverage wreaking havoc on Wall Street. The tech-loaded Nasdaq lost 1.4% on Friday and futures point to another round of pain when the market reopens today.
China remains committed to its zero-covid strategy despite growing signs that the economy is starting to crack. Authorities in Shanghai tightened lockdown rules again over the weekend, fueling worries around slower domestic growth and persistent global inflation as supply chains remain under strain.
With growing signs that Chinese economic growth might turn negative this quarter as PMI business surveys crater, Beijing has allowed the yuan to depreciate. The move has been rapid and has only added fuel to the rally in the US dollar. The currencies of nations that rely on Chinese demand for their commodity products - such as the Australian dollar - have suffered collateral damage.
All eyes on US inflation
There isn’t much on the economic calendar for today but there will be some fireworks on Wednesday, when the latest US inflation print is released. The yearly CPI rate is expected to have declined to 8.1% in April, heralding the long-awaited ‘peak’ in inflation - not because inflationary pressures have truly abated but rather due to favorable base effects finally kicking in.
If incoming data dispels some concerns around inflation, that could halt the frantic rally in US yields, knocking the wind out of the dollar’s sails and breathing some life back into battered tech stocks.
That said, until the outlook for economic growth in Europe and China starts to improve, it’s difficult to envision any retreat in the dollar turning into a trend reversal. Some positive news on Ukraine or China abandoning its zero-covid strategy would be needed before that is on the table.
Neither is likely for now, and in fact, there's a risk that news flow deteriorates further. Today marks the anniversary of the Soviet Union defeating Nazi Germany in WWII, and political analysts worry that the Kremlin could take the opportunity to escalate the invasion of Ukraine by formally declaring it a war.