Yields trend up, supporting USDOLLAR but may be a headwind for risk
Yields Chart Uptrend
The top candlestick chart is the weekly US 2-year yield, with the weekly US 10-year yield underneath. The 2-year is a good proxy for monetary policy and the 10-year represents fixed income investors' sentiment. Both instruments have charted a higher trough followed by a higher peak, putting their yields into uptrend.
This is in stark contrast to the sentiment shift of March (blue rectangles), where yields dropped markedly on US banking woes. During this time three small- to mid-size US banks failed – Silvergate Bank, Signature Bank and Silicon Valley Bank. The drop in yields reflected a flight to safety by investors as well as a loosening on an otherwise tight monetary policy by the Fed.
Fed Officials' Commentary
Last Friday, Fed Chair Powell participated in a panel discussion at the Thomas Laubach Research Conference. There, he suggested that yields may not go as high as previously expected due to tighter credit conditions (because of the turmoil in the banking sector).
However, the current uptrend in yields suggests yet another change in sentiment and we have seen other messages from Fed officials:
- James Bullard, St Louis Fed President, anticipates two more interest-rate hikes this year.
- Neel Kashkari, Minneapolis Fed President, said he is open to support a pause in June but "would object to any kind of deceleration that we're done."
USDOLLAR Finds Support
Over April and May, the weekly FXCM USDOLLAR basket found support around the 12,720 level (green shaded horizontal). It has charted a higher trough (HT) but is yet to follow up with a higher peak. This strength is not surprising given the uptrend in yields because the carry has become more lucrative when buying and holding dollars.
If the yields continue to trend up this will be a tailwind for the greenback.
Higher Yields May Impact on Risk
Here, we use the NAS100 as a proxy for the risk markets. Surprisingly, as yields have tended to trend up so has the NAS100. Typically, the NAS100 is sensitive to rate movements due to its inherent time value of money characteristics. I.e., its present value should be under pressure as interest rates rise. This has not been the case, but we do note that the weekly NAS100's RSI is overbought (green rectangle), suggesting that a correction may be due. The NAS100's voltility index may also be suggesting that headwinds are on the horizon.
The Cboe NASDAQ Volatility Index is regarded as a "fear gauge" for the technology sector. It is often used as a contrarian indicator. I.e., when markets are too positive, it may be a signal of trouble ahead. Here, we note that when the VXN's RSI is oversold (red verticals) a sell-down ensues soon after. We note that the blue vertical, representing the oversold condition in Jan, delayed until the NAS100 sold down (black rectangle). The RSI has recently moved into oversold territory (green rectangle).
- The US 2-year yield and US 10-year yield have moved into uptrend.
- Fed officials are giving mixed messages regarding the direction of interest rates.
- The rising yields are supporting the USDOLLAR.
- This is because the carry on the greenback has improved.
- However, they might provide a headwind for risk markets.
- In this regard, the NAS100 is overbought, and its volatility index may be suggesting weakness ahead.
Image by Pete Linforth from Pixabay
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.
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