Dollar Remains Under Pressure as U.S. Yields Slide

May 25, 2021
  • A renewed drop in U.S. yields is taking a toll on the dollar; this week’s Fed speakers will be closely watched; Fed manufacturing surveys for May will continue to roll out; Brazil reports mid-May IPCA inflation; polls show leftist Peruvian candidate Pedro Castillo in the lead
  • Relations between the EU and the U.K. remain sour; Germany reported firm May IFO business sentiment; U.K. reported April public sector net borrowing and May CBI distributive trades survey; Turkish central bank has a new Deputy Governor after another reshuffling; Hungary is expected to keep rates steady at 0.60%.
  • A surge in foreign investment helped propel Chinese stocks higher; Indonesia kept rates on hold at 3.50%, as expected

The dollar remains under pressure. DXY made a new low for this move near 89.535 today and is on track to test the January 6 low near 89.209. The euro traded at new highs for this move near $1.2260 today and is on track to test the January 6 high near $1.2350, while sterling is lagging a bit and so far unable to break above $1.42. USD/JPY is holding up as the yen underperforms today and is testing the 109 area. Until we see stronger U.S. data and higher U.S. rates (both real and nominal), the greenback is likely to remain under pressure.


A renewed drop in U.S. yields is taking a toll on the dollar. The 10-year nominal yield has fallen to 1.59%, the lowest since May 10. With 10-year breakeven inflation rates steady at 2.46%, the real U.S. 10-year yield has fallen back to around -0.87% after trading as high as -0.82% last week. As we have said countless times before, these rates all need to rise in order for the dollar to mount a sustainable recovery. Markets are marking time until Friday, when the U.S. reports May Chicago PMI and April core PCE data. Until then, it seems downward pressure on the greenback will continue.

This week’s Fed speakers will be closely watched. Evans, Barkin, and Quarles speak today. Last week, Barkin moved closer to the Kaplan camp by noting that the economy's upswing is moving the Fed closer to tighter policy and may offer a more hawkish take than what we got yesterday from doves Brainard and Bullard. While more and more Fed officials seems to be moving towards tapering sooner rather than late, the core group at the Fed is standing fast. Recall that in the March 16-17 Dot Plots, four FOMC members saw the first hike in 2022. The June 15-16 Dot Plots will be very interesting, and we suspect that more than four will see the first hike in 2022.

Fed manufacturing surveys for May will continue to roll out. Richmond is expected at 19 vs. 17 in April. Kansas City reports Thursday and is expected at 29 vs. 31 in April. So far, Philly Fed came in at 31.5 vs. 50.2 in April and Empire survey came in at 24.3 vs. 26.3 in April. While there are downside risks to this week’s Fed surveys, the U.S. manufacturing sector remains in solid shape, with services expected to remain strong as lockdowns end. May Conference Board consumer confidence (119.0 expected), April new home sales (-7.0% m/m expected) and March S&P/CoreLogic house prices (12.5% y/y expected) will also be reported today. 

Brazil reports mid-May IPCA inflation. Headline inflation is expected at 7.38% y/y vs. 6.17% in mid-April. If so, this would be the highest since October 2016 and further above the 2.25-5.25% target range. Next COPOM meeting is June 16 and another 75 bp hike to 4.25% is expected. Bloomberg consensus sees the rate at 5.0% in Q3 and 6.0% in Q3 2022. For now, the real has benefitted from the two 75 bp hikes seen so far this year, as the added carry does offer greater protection for foreign investors. 

Polls show leftist Peruvian candidate Pedro Castillo in the lead. As a result, the Peruvian sol depreciated another 1.5% yesterday and seems likely to test the recent all-time low near 3.85. Pedro Castillo has 44.8% support, according to the IEP poll, against 34.4% for the Keiko Fujimori. The gap between the two candidates was smaller in the Ipsos poll, but still over 5 ppts in favor of Castillo. Amongst other concerns, investors remain fearful that Castillo will impose higher taxes on the mining sector. To complicate matters further, the guerrilla group Shining Path killed 14 people yesterday in a rural area of the country, leaving pamphlets calling for a boycott of the elections.


Relations between the EU and the U.K. remain sour. Reports suggest France is weighing new restrictions on travelers from the U.K. due to concerns about COVID variants. Recall that the two are already butting heads over E.U. fishing rights and so we can’t help but feel that ongoing mistrust is coloring decisions from both sides. This also comes as the EU and U’K. continue to wrangle over the terms Brexit as the apply to Northern Ireland, with European Commission President von der Leyen stressing “There is no alternative to the full and correct implementation of the Northern Ireland protocol. If we see problems today, we should not forget that they do not come from the protocol, they come from Brexit.” What this backdrop implies to us is that the EU is highly unlikely to grant so-called equivalence to U.K. financial firms.

Germany reported firm May IFO business sentiment. The headline rose to 99.2 vs. 98.0 expected and a revised 96.6 (was 96.8) in April. Both expectations and current assessment rose sharply to 102.9 and 95.7, respectively, with expectations up nearly four full points. Germany reports June GfK consumer confidence Thursday and is expected at -5.2 vs. -8.8 in May. Elsewhere, final Q1 GDP growth was revised down a tick to -1.8% q/q. Private consumption was the main culprit, contracting -5.4% q/q vs. -3.5% expected. Government spending rose 0.2% q/q vs. 0.4% expected, while capital investment rose 0.3% q/q vs. -1.1% expected.

Details of ECB asset purchases for the week ending May 21 will be reported. Yesterday, net purchases were reported at EUR21.7 bln, the second highest reading this year and up from EUR19.0 bln for the week ending May 14 and EUR16.3 bln for the week ending May 7. Redemptions will be reported today, after which we can derive gross purchases. Due to fairly high redemptions, gross purchases were EUR23.2 bln for the week ending May 14 and EUR24.6 bln for the week ending May 7. The accelerated pace will be reviewed at the June 10 meeting. If yields continue to rise, then the accelerated pace is likely to be extended into Q3, which would be a dovish sign.

The U.K. reported April public sector net borrowing and May CBI distributive trades survey. Net borrowing ex-banking came in at GBP31.7 bln vs. GBP31.0 expected and a revised GBP26.3 bln (was GBP28.0 bln) in March. Elsewhere, CBI’s retailing reported sales component came in at 18 vs. 25 expected and 20 in April. This is a rare downside miss for U.K. data in recent weeks and bears watching. Last week, May CBI industrial trends survey came in firm, with total orders at 17 vs. -8 in April and selling prices at 38 vs. 27 in April. Clearly, the economy is recovering strongly as the nation reopens. Of note, headline inflation picked up in April to 1.5% y/y, while the10-year breakeven inflation rate has risen nearly 60 bp this year to 3.60% currently, the highest since 2008..

Bank of England officials are signaling calm for the most part. Governor Bailey said that the expected acceleration of inflation this year will likely be temporary, while Deputy Governor Cunliffe said inflation will return to the bank’s 2% target as growth slows. On the other hand, MPC member Saunders said the U.K. economy may need a “modest” tightening of monetary policy if there’s a more sustained pickup in inflation than the central bank expects. Market pricing for BOE tightening remains hawkish, with the short sterling futures strip showing that the first hike is mostly priced in by Q1 22 and fully priced in by Q3 22.

Turkish central bank has a new Deputy Governor after another reshuffling by President Erdogan. Market reaction was muted as Oguzhan Ozbas was replaced by the economist Semih Tumen, who has been at the central bank for 16 years. We don’t have any special insight to form a view on whether this means an important shift in policy, and unchanged local asset prices suggests the markets might see it the same way. Indeed, we still feel that Erdogan is still pulling the strings on policy. Separately, the latest poll by Turkiye Raporu shows that support for the ruling AK Party has declined to an all-time low of 27%. A spokesman for the polling institute said the removal of central bank Governor Agbal in March and the subsequent selloff of the lira was the “the breaking point for Erdogan supporters.” We suspect high inflation and poor handling of the pandemic are also major negative factors. Elections for both the presidency and parliament aren’t due until 2023 and so Erdogan has some breathing room to try and turn things around.

National Bank of Hungary is expected to keep rates steady at 0.60%. Inflation was 5.1% y/y in April, the highest since November 2012 and well above the 2-4% target range. Last week, Deputy Governor Virag signaled tightening is on the way. He said that hikes could be seen as early as the June 22 meeting given rising inflation pressures. This would be the first rate hike since 2011. The bank is likely to deliver a hawkish hold and provide more detailed forward guidance at today’s meeting. Our question is, why wait until next month? Either way, between Czech Republic and Hungary both signaling rate hikes, investors have to wonder if the implied non-transitory nature of the inflation spike in Eastern Europe will translate elsewhere. Stay tuned.


A surge in foreign investment helped propel Chinese stocks higher. Overseas investors purchased a net CNY21.7 bln ($3.4 bln) worth of A shares via links with Hong Kong today, the highest on record. The CSI 300 was up 3.2% on the day, far outpacing the Nikkei (+0.7%) and hang Seng (+1.6%). The inflows saw USDCNH trade below 6.41 for the first time since June 2018, though still broadly following the weak dollar trend. While a firmer yuan would help limit price pressures, the PBOC has leaned against the wind a bit, fixing the yuan at levels weaker than bank models expected for all but three days this month.

Bank Indonesia kept rates on hold at 3.50%, as expected, reinforcing its immediate focus on FX over inflation. The latest CPI reading was 1.42%, still below the 2-4% target range thus supporting the argument towards further easing, especially when coupled with the country’s weak recovery prospects. Even with the bounce in the last weeks, IDR remains on the weaker end of EM Asia so far this year. In addition, the precipitous drop in foreign debt ownership since the pandemic (and concerns about CB debt monetization) cast a shadow over the sustainability of portfolio inflows. Outflows seem to be stabilizing, but overall bond holdings by foreign investors are still below that of the BI. As such, we don’t see a strong case for either a hike or cut in the near term. Indeed, Governor Perry Warjiyo said that if changes to the policy mix are needed, the bank will turn to liquidity instruments before tinkering with the policy rate.  

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