Dollar Softer as Bond Markets Stabilize

October 19, 2021
  • The bond market rout seems to have run its course, at least for now; we believe this is just a period of calm within a generalized move higher in global rates; yesterday’s TIC data is worth a mention; U.S. fiscal policy remains up in the air
  • Market pricing of BOE tightening has cooled a bit; BOE officials Mann, Bailey, and Pill speak; Hungary is expected to hike rates 15 bp to 1.80%
  • RBA minutes pushed back on the need to hike rates; Indonesia kept rates at 3.50%, as expected

The dollar is trading softer as the global bond rout takes a pause. DXY is trading at the lowest level since September 28 near 93.52, down over a point from the new cycle high near 94.56 posted last week. It has retraced over a third of the September-October rally, and key retracement objectives lie ahead at 93.254 (50%) and 92.946 (62%). USD/JPY remains above 114 as risk-on sentiment builds. Elsewhere, the euro is trading just above $1.1650, while sterling is leading the move higher and is already approaching its September 14 high near $1.3915. With the Fed ready to taper, markets pricing in Q3 or Q4 22 Fed liftoff, and price pressures still rising, we believe the move higher in U.S. rates and the dollar will eventually resume.


The bond market rout seems to have run its course, at least for now. Global yields are stabilizing after yesterday’s panic moves. At the long end, 10-year yields are little changed, with small rises seen in the U.K. (+1 bp) and Germany (+1 bp) and small drops seen in New Zealand (-1 bp), Australia (-2 bp), and the U.S. (-1 bp). At the short end, there was a general move down in rates, led by the U.S. (-3 bp), U.K. (-2 bp), and Germany (-2 bp). Of note, New Zealand’s 2-year yield rose 2 bp while Australia’s was flat.

We believe this is just a period of calm within a generalized move higher in global rates. The inflation debate is by no means settled, not with supply chain issues and higher commodity prices still percolating through the system. As we wrote yesterday, this debate will likely take weeks, if not months, before some sort of definitive conclusion can be reached. However, we are confident that U.S. rates and the dollar will continue rising throughout this debate.

Fed officials so far have given no inclination that they will deviate from imminent tapering. This withdrawal of accommodation should tighten liquidity, and tapering will eventually be followed by lift-off. Today’s bond market calm is being reflected in less aggressive Fed tightening expectations, though the Fed Funds futures strip still shows high odds of Q3 22 lift-off and is fully pricing in Q4 22. Daly, Barkin, Bostic and Waller all speak today. September building permits (-2.4% m/m expected) and housing starts (-0.2% m/m expected) will be reported.

Yesterday’s TIC data is worth a mention. While we typically don’t put much emphasis on TIC data due to the backward looking nature, it is noteworthy that foreign holdings of USTs rose in August to a record high $7.56 trln. This was an increase of $12.8 bln and the fifth straight monthly gain, as relatively high yields continued to attract foreign demand. We saw this last week, as indirect bidders took big shares of the 10- and 30-year paper on sale. Japan’s holdings rose by $9.6 bln in August to a new record high of $1.32 trln, while China’s holdings fell $21.3 bln to $1.05 trln, the lowest since 2010. We suspect total foreign holdings of USTs will continue to rise in subsequent TIC data.

U.S. fiscal policy remains up in the air. Enough so that Treasury Secretary Yellen warned that her department must still rely on emergency funding measures despite the temporary extension of the debt ceiling to December 3. The Democrats have a lot of ground to cover in the next two weeks. They plan to pass a bipartisan traditional infrastructure bill by October 31 while at the same time negotiating a compromise on the “human infrastructure” bill as well as a longer-term extension/ suspension of the debt ceiling. The progressive wing has pledged not to vote on the infrastructure bill until an acceptable compromise has been struck on the “human infrastructure” package. Senator Manchin warned that this deadline will be hard to meet, noting “There is an awful lot to go, I don’t know how that would happen.”


Market pricing of Bank of England tightening has cooled a bit. After the 2-year gilt yield spiked to 0.75% yesterday, it has drifted back below 0.70% but is still nearly double the 0.38% yield at the start of October. That said, the short sterling strip is still fully pricing in Q4 lift-off, followed by nearly four more hikes in 2022. WIRP suggests a hike at the November 4 meeting is about 85% priced in, followed by nearly 50% odds of another hike at the December 16 meeting. September CPI data tomorrow could lead to more volatility for U.K. asset markets.

BOE officials Mann, Bailey, and Pill speak today. Mann and Bailey have staked out their opposing positions but new Chief Economist Pill is a bit of an unknown. That said, his most recent remarks seem to line up with Bailey, as he said earlier this month that “In my view, that balance of risks is currently shifting towards great concerns about the inflation outlook, as the current strength of inflation looks set to prove more long lasting than originally anticipated.”

National Bank of Hungary is expected to hike rates 15 bp to 1.80%. The bank started the tightening cycle with a 30 bp hike to 0.9% in June and followed up with two more 30 bp hikes in July and August before slowing to 15 bp in September. The bank said that this slower pace would continue until December, when it will make a quarterly assessment of the impact. CPI rose 5.5% y/y in September, the highest since October 2012 and further above the 2-4% target range. This suggests the tightening cycle will continue for the foreseeable future.


RBA minutes pushed back on the need to hike rates. At last week’s meeting, the RBA affirmed its forward guidance that rates would likely remain steady until 2024. After Governor Lowe warned of financial stability risks, lending standards were subsequently tightened by regulators. The minutes laid out other ways to cool the housing market, noting that while hiking rates is an option, this would have negative effects on the labor market. This suggests the bank will continue relying on macroprudential policies. Indeed, the bank reiterated that it won’t hike rates until inflation is sustainably within its 2-3% target range. Next policy meeting is November 1 and no change is expected then. However, new macro forecasts will be released then and will be studied for signs that the bank is shifting its expected lift-off timing forward. 

Bank Indonesia kept rates at 3.50%, as expected. Indeed, it is unlikely to make any change in the next few quarters. The risks are roughly balanced at the moment between the Delta variant damage to the economy and need to keep some level of rates buffer for the currency. The BI kept its growth target unchanged at 3.5-4.3% for the year but revised the current account deficit forecast lower to 0.0-0.8% of GDP. Of note, it’s comforting to see that foreign investor holdings of government bonds have remained steading for the last few months, even if not recovering.

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