Nothing seems so clear to markets today other than higher rate risks – and yet the U.S. 10 year isn’t yet broken out, writes Bob Savage, CEO of Track Research in his Thursday commentary.
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Worth the wait or simply rotate? That is the question of the day as the FOMC is followed by the BOJ and Norges bank decisions overnight and the churning of positions rather than new directions dominates most risk markets.
The FOMC decision to cut its balance sheet and to advise that another rate hike in December is probable (market prices in 64% now up from 40% early in the week) along with 3 more hikes in 2018 as it sees 3Q weakness from storms reversed in 4Q with inflation mysteriously lower leaves everyone uneasy.
First, the Fed action is the end of almost 10-years of debt monetization.
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Second, the action puts on call all spread trades in fixed income wrapped around credit. The biggest winner over the last 24 hours – banks – as the implicit take away is that control of money is returning from the public to the private sectors in the U.S. and perhaps similarly around the world.
The rotation trade in US equities was more apparent than the momentum trade to buy shares that arguably look stretched – the Dow Jones Industrials (DJIA) had its 42nd record close for 2017 – a reflective confirmation that this is the best of times. The Fed raising rates and markets loving it are not incompatible but they won’t last forever. For markets – this has been a turning point in the path of the USD – as it bounces sharply. The U.S. rate market is not as obvious a call with many noting the flattening of the U.S. curve more than the testing of the 10-year bond technical.
Other central bankers were the story overnight – and the connection between rates and forex and equities remains key. The RBA was the start with Governor Lowe: “a rise in global interest rates has no automatic implications for us here in Australia” – that along with a 5% drop in Iron Ore prices sent Australian dollar (AUD/USD) lower.
On the other side there was the Norges bank that left rates unchanged at 0.5% but noted the growth recovery and euro/Norwegian krone (EUR/NOK) is off 0.7% 9.3040 as the Norges bank also lifts its interest rate path expectations.
The euro/Swedish krona (EUR/SEK) also fell 0.2% to 6.5085 overnight as the minutes from the Riksbank meeting highlight the debate on fears of the economy overheating.
But the real surprise overnight came as one new BOJ member voted to increase QE making stark the comparison to the FOMC and to likely the BOE, ECB and others. By a vote of 8-1 the BOJ said it would keep interest rates at minus 0.1 per cent, cap 10-year bond yields around zero per cent and keep purchasing assets at a pace of ¥80tn a year. The BOJ was rewarded for its non-action by seeing the Nikkei rally and Japanese yen (JPY/USD) weaken to 9-week lows.
The EU markets are waiting for Draghi to speak to see if he follows Yellen or Kuroda. The politics remain a focus as well with riots in Catalan over the jailing of its leaders ahead of the October 1 referendum while Germany remains confident it will have Merkel in charge after the weekend.
The U.S. is still watching Trump and his North Korea/Iran policy shifts along with the Republicans in the Senate with their new health care repeal plan.
Nothing seems so clear to markets today other than higher rate risks – and yet the U.S. 10 year isn’t yet broken out.
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