FX and sovereign debt markets are bracing for the bout of turbulence aheadof the Fed event today. Despite success in spurring inflation growth, the Fed’smessage will likely remain unchanged – substantial observed progress inemployment is an essential condition to depart from accommodative policy. Yielddifferential between the 10 and 2-year Treasuries will likely extend gains on adovish message - which should support EM currencies as well as Norwegian kroneand CAD.

US long-dated yields have rebounded ahead of the Fed, halting decline whichlasted about a month:

The US dollar were also offered support thanks to signs of renewed bondmarket rout and set to test the upper bound of downward channel in which itcurrently resides:

Inflation premium in long-dated Treasuries could be fueled by the USconsumer sentiment report released on Tuesday. Consumer sentiment index jumpedto 121.7, the highest since February 2020. The report reinforced fears thatsupply in the economy is not keeping pace with rebounding consumer demand,which should result in faster inflation. There are signs on the supply sidethat justify those fears: for example, quickly rising maritime shipping rates or,for example, updated profit forecast of the largestcontainer operator Maersk. The company has doubled its profit forecast for 2021due to "exceptionally strong" demand for its logistic services.

Given these findings, if the Fed continues to cling to the transientinflation argument today and leaves QE timeframe unchanged, the US real ratewill be under pressure again. This time, however, we have less patchy globalgrowth, so there are plenty of alternatives to US fixed income assets. Thisshould stimulate the search for yield abroad. The effect on the dollar appearsto be negative.

However, pressure on USD will likely be uneven. Given positive correlationof yielding currencies with the spread between 10-year and two-year US governmentbonds, in particular the Canadian dollar, today's message from the Fed may openway for their further rally. By the way, the CAD has been behaving strangely inthe couple of last days, fluctuating in a very narrow range after strongsweeping moves earlier:

Continuation pattern?

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