FX and sovereign debt markets are bracing for the bout of turbulence ahead of the Fed event today. Despite success in spurring inflation growth, the Fed’s message will likely remain unchanged – substantial observed progress in employment is an essential condition to depart from accommodative policy. Yield differential between the 10 and 2-year Treasuries will likely extend gains on a dovish message - which should support EM currencies as well as Norwegian krone and CAD.
US long-dated yields have rebounded ahead of the Fed, halting decline which lasted about a month:
The US dollar were also offered support thanks to signs of renewed bond market rout and set to test the upper bound of downward channel in which it currently resides:
Inflation premium in long-dated Treasuries could be fueled by the US consumer sentiment report released on Tuesday. Consumer sentiment index jumped to 121.7, the highest since February 2020. The report reinforced fears that supply in the economy is not keeping pace with rebounding consumer demand, which should result in faster inflation. There are signs on the supply side that justify those fears: for example, quickly rising maritime shipping rates or, for example, updated profit forecast of the largest container operator Maersk. The company has doubled its profit forecast for 2021 due to "exceptionally strong" demand for its logistic services.
Given these findings, if the Fed continues to cling to the transient inflation argument today and leaves QE timeframe unchanged, the US real rate will be under pressure again. This time, however, we have less patchy global growth, so there are plenty of alternatives to US fixed income assets. This should stimulate the search for yield abroad. The effect on the dollar appears to be negative.
However, pressure on USD will likely be uneven. Given positive correlation of yielding currencies with the spread between 10-year and two-year US government bonds, in particular the Canadian dollar, today's message from the Fed may open way for their further rally. By the way, the CAD has been behaving strangely in the couple of last days, fluctuating in a very narrow range after strong sweeping moves earlier:
Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.
High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 65% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.