Fixed income caught a small bid early in the London session, most probably due to equities weakness as the markets self-correcting mechanism kicks in when risk parity runs too far awry. Asian markets took the lead from US equities, with the tech-heavy NASDAQ battered yesterday, closing down 2.7% and China leading the selloff.
The rise in yields is starting to weigh significantly on equities, although so far, it is hardly turning into a rout. Specific sectors and stocks are suffering, but the S&P 500 was just under its all-time high at the end of the NY session.
Is this anything other than a short term reprieve for fixed income markets?
It would seem so, and while the weakness in equities has provided a bit of support, perhaps the biggest reason for the bounce is the hope that Fed Chair Jerome Powell might offer some soothing words when he speaks at 17:05 GMT today.
Does the market want to hear soothing words as it is?
After all, it seems most people are quite happy about the back up in yields, while central bank members are also showing little concern. Is there any need for Powell to even say anything? If the Fed is concerned about financial stability and disorderly markets, perhaps he could hint at some extension of last year's SLR tweak.
I am skeptical that the conditions are ripe for a significant short squeeze, especially given that it seems that accounts are still not anywhere like max short when it comes to fixed income. CTA shorts are well documented, and now people are pointing to moves in the repo as further signs of a deep short base. While we could see a short-term bounce, I don't think it will be viewed as anything other than another selling opportunity to fade any fixed income rallies.
Oil Markets
Today and tomorrow, OPEC+ meetings kick off at 13:00 GMT, with a live broadcast of the opening session and a press conference afterwards. The event was originally planned as a one-day event, which seemed optimistic given the Russian/Saudi positions were closer together than recently indicated by public comments. I think volume risk is to the upside of what markets were pricing, therefore oil price risk is to the downside.
Forex
Trading in commodity currencies has been a bit nervous, as the market wants to trade them from the long side, but choppy equity markets on the back of movement in yields are keeping everyone on their toes.
As yields continue to rise, equity markets will continue to take notice and should struggle.
EUR/USD ran out of steam ahead of 1.21, but 1.20 has proven to be a good support for now. Look for range trading until the market decides if lower rates because of a strong recovery is a good thing or not.
A repeat of the EUR, CAD and JPY view
I think EUR will underperform from here on because the global reflation story does not feed through to EU rates the way it feeds through to fixed income markets run by more permissive central banks like the FED.
I think EUR, which tends to be neither a cyclical nor a funding currency, will fall under almost any rates or risk regime this month.
Furthermore, the post-COVID economic boom will be driven by services. The USA is the most services-heavy economy globally and will provide the icing on the cake.
And the cherries on top will unquestionably be the $1.9T of stimulus passed in the next week or two and then a massive US infrastructure package from Mayor "Notre Dame" Pete.
And this is the perfect environment to remain long. The Loonie should benefit from the massive US growth spurt as the Great White North remains firmly tied to the US of A's hip.
Strong global growth led by US services should continue to benefit all commodity currencies. Still, it may also lead to a rotation out of Asia and into North America in the coming months. So short, EUR/CAD looks inviting.
The US inflation narrative is still alive, and the USD short unwind could continue. The Bank of Japan may surprise by stressing a commitment to cut rates further if needed. As a result, the market is going long via USD/JPY as the cleanest hedge.