2-year yields have covered their prior 6-month range in the last week.
Whether or not this move is sustainable matters quite a bit. While the USD and risky assets could shrug off actions in the long end, they will find it harder to ignore 'Blues, and 2's' (2-year yields) moves without question.
(Blues are a sequence of individual future contracts bundled on a 4-year duration. Corporates use these IMM US Libor interest rate strips to hedge floating rate Libor loans, and the market speculates against.)
Despite consistent messaging from the Fed leadership last week that reinforced their 'patiently accommodative' policy stance, interest rates continued to climb sharply, with the market pricing a whole rate hike by early 2023 and nearly three rate increases (cumulative) by the end of 2023.
I think worth keeping an eye on is the pickup in direction volumes in the 1-year mid curve exposures. So far, it has been centered on Sept. and Dec. expiries, but if the move continues, rates traders could start shifting into June, which is currently being acknowledged as the line in the sand for downside plays.
Fed officials have largely shrugged off the recent moves in yields, viewing the rise in rates reflecting a more positive growth outlook. However, the sharp repricing of Fed policy tightening coupled with the rapid increase in real yields across the curve—presents risks of an unwanted tightening of financial conditions. Real yields have become a source of volatility for pain trades rather than a source of support for reflation trade.
This week will be the last opportunity for Fed officials to shift their tone in this regard, given the upcoming blackout period ahead of the Mar. 16-17 FOMC meeting. So it's a big week on the pushback front.
Meanwhile, the RBA will need to fabricate a more convincing scenario to argue that QE keeps yields down even as their buying again met ferocious selling last night. Many of the Australian bonds sellers are probably punters trapped offside by hard-to-keep promises from the central bank.
Just like the 1.2000 floors in EUR/CHF attracted speculators to the SNB line in the sand on the allure of a free-money trade that, of course, ended up anything but free money. The RBA's late-cycle bond-buying commitments have similarly drawn too many longs.
Investors will also have a complete data docket to contend with this week, and any signs of stronger-than-expected inflation will continue to hit the market like a ton of bricks. And even if the Fed plays down the impact of base effects, traders will be fast to call their bluff.
Adding to the inflationary repricing last Friday, US January core PCE came in at 0.3% month-on-month and 1.5% year-on-year, higher than expectations for 0.1% month-on-month and 1.4% year-on-year, and after 0.3% month-on-month and 1.5% year-on-year.
Forex
The rally in US yields eventually prevailed. The deterioration of risk sentiment into the end of the week shook relation sentiment from its foundations, triggering a short USD squeeze compounded by the fact liquidity dropped precipitously on Friday.
Oil
As are most commodities and linker currencies, crude prices are getting caught up in the domino effect of higher US rates. Still, it's quite surprising how resilient oil has traded given broader market moves so far, suggesting OPEC unity rather than supply management cessation remains the order of the day.
The OPEC+ meeting on Mar. 3 is an increasingly essential ingredient, and producers face the tricky task of sorting through the various moving parts to form a strategy that makes everyone happy. But let's not beat around the bush; more supply needs to come onto the market to ensure OPEC+ meets incremental demand and keeps internal discipline ducks in a row.
Evidence of a tighter oil market in 2021 prompted several brokers to make upward revisions to oil price targets, which helped push Brent to a 13-month last week. While it is true that the market is likely to be undersupplied this year, what is getting ignored is the fact that this deficit is entirely dependent on OPEC+ supply cuts. The artificial shortage created by the OPEC+ agreement will help to accelerate the draw-down of global inventories. Still, the upside in oil is likely to be capped by the ~9mb/d of spare capacity in OPEC+.
Gold
Higher US yields continue to pressure gold, which remains mired in a downtrend that began in August, with Gold ETF (NYSE:(GLD) and futures speculative positioning both coming off from the top to about 80% of the last year's range.
Technical trends kicked in when gold gapped down to $1756.30 from $1765.66 then triggering stop losses in a cascading effect.
The rise in US bond yields triggering inflows into USD is the most forceful headwind for precious metals.