The top chart shows the weekly US 10-Yr. Treasury, which is currently yielding 3.25%. In effect, it has charted a higher peak after a higher trough as its uptrend continues. The middle chart shows the weekly FXCM USDOLLAR basket. It also charts a higher trough followed by a higher peak. I.e. the greenback is trending up.
For us, the correlation coefficient (bottom indicator) is very interesting. It currently has a reading of 0.93. This value means that the US 10-Yr and the FXCM USDOLLAR index are presently 93% correlated, which is very high. Correlation in themselves may be accidental. Therefore an exploration of the high positive relationship is essential.
The correlation increases into the Fed's March meeting (green dashed vertical) and continues in this trajectory. The minutes for the 15-16 March meeting detail conversations among senior Fed officials regarding the shrinking of the central bank's balance sheet.
Stagflationary pressures, driven by supply shocks, and demand pressures due to ultra-loose monetary and fiscal policies, are critical variables in assessing monetary policy. However, we believe that the siphoning of liquidity out of the economy due to the Fed's quantitative tightening and balance sheet normalisation are the key drivers. In effect, there is a strong probability that yield and dollar strength are now locked together, resulting in the 0.93 correlation coefficient.
If correct, the ramifications are significant. Even if core CPI peaks and the Fed turns more dovish, the Fed balance sheet reduction still needs to be considered and monitored. It is likely to have effects and should not be ignored and underestimated.
Senior Market Specialist
Russell Shor joined FXCM in October 2017 as a Senior Market Specialist. He is a certified FMVA® and has an Honours Degree in Economics from the University of South Africa. Russell is a full member of the Society of Technical Analysts in the United Kingdom. With over 20 years of financial markets experience, his analysis is of a high standard and quality.