Dollar’s Winning Streak is Over

Thursday February 16: Five things the markets are talking about

“Waiting too long to tighten would be unwise; more policy adjustments will likely be needed if the economy remains on track”

A number of Fed officials chimed in Tuesday and Wednesday to reinforce Ms. Yellen’s message that they expect to raise short-term interest rates in coming months, perhaps as soon as March.

In two days of congressional testimony, Yellen said the Fed likely would raise its benchmark fed-funds rate at one of “our upcoming meetings” if the economy continued to improve as expected.

The argument for a rate hike in March has gained this week, supported by yesterday’s U.S CPI and core retail sales printing double the market consensus. The OIS market has lifted pricing for a March 15 rate hike to +42% from +30% a couple of days ago.

Surprisingly, this week’s “big” dollar gains have been almost been wiped out in the overnight session as the reflation trade rally that has sent stock prices to record highs has been cut short as the yen jumped and Treasuries prices climbed for the first time in five-days.

1. Mixed results from Stocks

Technical indicators are showing that global equities are currently “overbought,” especially in the U.S and some Asian markets, and this has given some investors food for thought in the overnight session.

In Japan, stocks retreated as a pause in the weakening of the yen (¥113.66) has given some investors an excuse to book profits, though financials extended their outperformance on rising U.S. yields. The Nikkei share average fell -0.5% after scaling near six-week highs earlier this week.

In Hong Kong, stocks closed at an 18-month high on demand from China. The benchmark Hang Seng index added +0.5%, the highest since August 2015, while the Hong Kong China Enterprises Index gained +0.2%.

Note: Chinese investors, including mutual funds and major insurers, have been steadily increasing their allocations, as regulators on the mainland tighten investments in wealth management products and other risky assets.

In China, stocks posted modest gains as higher commodity prices and infrastructure spending continued to boost shares of firms in the materials sector. The Shanghai Composite Index added +0.5%.

In Europe, equity indices are trading lower after a raft of corporate earnings pre-market, and a relatively mixed session in Asia overnight. Banking stocks trading mixed in the Eurostoxx; while commodity and mining stocks are trading notably lower in the FTSE 100.

U.S futures are set to open in the red (-0.2%).

Indices: Stoxx50 -0.4% at 3,315, FTSE -0.4% at 7,273, DAX -0.2% at 11,777, CAC-40 -0.3% at 4,912, IBEX-35 -0.3% at 9,559, FTSE MIB -0.4% at 18,978, SMI -0.4% at 8,449, S&P 500 Futures -0.2%

2. Oil prices steady despite record U.S. inventories

Oil prices are steady ahead of the U.S open. A record crude and gas inventories in the U.S is dragging on prices, but, that been counterbalanced though OPEC supply cuts helping to support the market.

Brent crude is up +10c at +$55.85 a barrel, while U.S light crude (WTI) has gained +10c to +$53.21.

Note: OPEC has agreed to cut output by almost -1.8m bpd during the first half of 2017, with industry data showing that most producers are sticking to the deal (+93% compliance).

Despite this, inventories remain bloated and supplies high, especially in the U.S. This week’s EIA report showed that crude and gasoline inventories soared to record highs last week as refineries cut output and gasoline demand softened.

Crude inventories rose +9.5m barrels, while gasoline stocks rose by +2.8m barrels.

Note: Both Brent and WTI crude has traded within a +$5 per barrel price range so far this year.

Gold prices are firmer (+0.2% to +$1,235.01 an ounce) as the dollar drifts down from it one-month highs prints in yesterday’s session on upbeat U.S. data that improved the prospects of an interest rate hike by the Fed next month.

3. Sovereign bond yields fall

U.S. bond yields have eased overnight, taking with it Bunds, Gilts and JGB’s.

Yesterday, the yield on the U.S 10’s backed up +3bps to trade through +2.5% for the first time in two-weeks, supported by stronger U.S data and a somewhat more “hawkish” Fed Chair that has indicated March is a live meeting for another rate hike.

Note: March future probabilities have rallied to +42%, while May is now above +50%. The yield on U.S 10’s has fallen -1bps to +2.49%.

Also keeping pressure on global yields are upcoming elections in the Netherlands, France, Germany and possibly Italy – investors are interested in “safe” government bonds particularly with anti-EUR and anti-EU sentiment on the increase throughout the continent.

Yesterday’s U.S TIC data saw the first net decline in U.S holdings in three-months, although China holdings of U.S treasuries rose for the first time in seven-months to +$1.07T (In January, China sold the biggest amount of U.S debt in six-years).

Earlier this morning, Spain delivered another “solid set” of bond auctions results. Periphery countries products, like Spain, have felt the pressure from general spread widening to bunds.

Nevertheless, Spanish bonds seem to have done a good job of distinguishing themselves from Italy and France – dealers believe the risks for Spanish bonds remain much smaller compared to Italy, or France.

4. Dollar knocked back after 10 days of gains

The ‘mighty’ dollar has broken its near two-week winning streak overnight, falling back against a number of G7 (EUR, JPY, GBP, CAD etc.) and EM currencies after hitting its highest in a month yesterday.

Yesterday, the greenback found traction after the second round of somewhat more ‘hawkish’ Fed chair Yellen testimony, along with stronger U.S CPI and retail sales data. However, with U.S yields under pressure overnight the dollar has lost some of this support.

USD/JPY has dipped to ¥113.60 area as dealers reacted to comments from Bank of Japan’s (BOJ) Governor Kuroda in which he noted that low interest rates could sow the seeds of a new financial crisis. GBP (£1.2508) is trading through the psychological £1.25 level, being dragged higher mostly on technicals (weaker shorts have been stopped out on this run up).

The EUR has edged up over +0.3% to €1.0632, recovering from a five-week trough of €1.0520 touched yesterday. The market is waiting for the ECB minutes release at 07:30 EST for direction.

5. Aussie jobs report beat expectations, but details disappointing

Australia employment data was mixed overnight – the unemployment rate was lower than expected (++5.7% vs. +5.8%), while the employment change slightly higher (+13.5k vs. +10ke).

However, all of the jobs growth last month came from part-time employment, which surged by +58.3k, offsetting a sharp decline in full-time workers, which tumbled by +44.8k. The labor participation rate also ticked lower to +64.6% vs. +64.7% prior. The growth in total hours worked remains weak, largely due to the split in hiring that’s been seen over the past year.

Aussie short-term yields retreated, with 3-year’s down about -3bps to +2.03% and the Aussie to AUD$0.7698.

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