- Asian session: EUR/USD treaded water at around 1.1235 in spite of dovish comments from Fed Governor yesterday
- Even though the Aussie will be subject to upside risk - mostly because of its higher yielding currency status - we believe that in the medium-term the downside potential will weigh more heavily
- In our view, Fed Rosengren’s comments on Friday were definitely a mistake - the Fed does not have the ability to raise rates as jobs market is largely overestimated
- The Fed’s credibility deteriorates as it continues to contribute to market volatility, rather than trying to ensure stability
The USD stabilised against most of the G10 currencies (EUR, CHF and JPY) but extended gains against commodity currencies and emerging markets in general - even though the gains have been very uneven. During the Asian session, EUR/USD treaded water at around 1.1235 in spite of dovish comments from the Fed Governor yesterday. Fed’s Brainard said that “the case to tighten policy preemptively is less compelling”, warning that the job market is not yet at full strength. Accordingly, short-term treasury yields fell slightly with monetary policy sensitive 2-year yields testing 0.75%. On the longer-end, the 10-year stabilised at around 1.66%, while the 30-year consolidated slightly below the 2.40% threshold. Overall, the entire yield has been steepening significantly since the beginning of the month with the spread between the 2y and the 10y jumping to 0.90% - the highest level since June this year - from 0.75% in late August. The widening of the term-spread is mostly due to the fall in short-term rates rather than a rise in the longer ones.
Yann Quelenn, market analyst: “Hawkish one day, dovish the next: The US equities market declined sharply on Friday on the back of Fed Rosengren’s very hawkish comments. We believe this move was a mistake. In our view, the central bank does not have the ability to raise rates. Its massive debt is holding it back. Its credibility continues to deteriorate as a rate hike normalization period was due years ago. Last December's small hike was simply an attempt to smooth over the cracks.
These hawkish declarations triggered a significant equity sell-off. Yesterday, Fed’s Brainard, Lockhart and Kashkari all played the role of firemen, repeating over and over that patience is the key word and that the job market is not yet strong enough. Ordinarily, a 4.9% unemployment rate would be looked on very favourably, but with the absence of wage growth, the figures contradict each other. This is why we believe that the jobs market is in fact largely overestimated.
Unsurprisingly, equity markets went up yesterday amid the comments that there is “no hurry” to raise interest rates. The free money tap continues flow with no end in sight at present and markets are now pricing a September rate hike at 22%. Fed communication is mixed, contributing to market volatility while it should be working to ensure price stability. This sounds like another failure from the American Central Bank.” ---
Commodity currencies partially reversed yesterday's gains, with the Aussie falling 0.50% to $0.7530 in Sydney and the Kiwi sliding 0.40% to $.0.7325. The Aussie has been caught in a crossfire between global investors that have been chasing higher yields, which push the Aussie to higher ground, and the weak inflationary environment that is increasing pressure on the RBA to further ease. Yesterday, AUD/USD tested a 1-month low at around 0.75 before jumping to 0.7566 amid Brainard’s dovish comments. Even though the Aussie will be subject to upside risk - mostly because of its higher yielding currency status - we believe that in the medium-term the downside potential will weigh more heavily.
In the equity market, Asian equity returns were mixed on Tuesday following the sell-off in Europe and the rally in Wall Street. Japan’s Nikkei was up 0.34%, while in mainland China the CSI was down 0.15%. In Hong Kong, the Hang Seng rose 0.36%, Australian shares were down 0.23% and in Wellington, equities slid 0.42%. Finally, in Europe, equity futures are pointing towards a higher open.