Will hot inflation revive US yields?
Fundamental Forecast US Dollar: Neutral
- The US dollar (via the DXY index) retreated as the calendar moved forward to mid-July due to lower Fed rate hike expectations and collapsing US Treasury yields.
- And even though another hot inflation report is expected, markets are actually less convinced that the Fed will raise interest rates anytime soon; the action will be limited to gradually reducing asset purchases.
- According to the IG Customer Sentiment Index, the US dollar has a mixed bias until mid-July.
The US dollar is falling
The US dollar (via the DXY index) retreated as the calendar moved forward to mid-July due to lower Fed rate hike expectations and collapsing US Treasury yields. But with a powerful catalyst expected over the next few days – the June US Inflation Report (CPI) on Tuesday – a shift in the recent narrative could be just around the corner.
While hot inflation numbers should theoretically spill over into higher US Treasury yields, the fact that the Federal Reserve continues to firmly insist that inflation is “largely transient” may prevent a bullish move. significant returns. As a result, there is an asymmetric risk for the US dollar: a hot report on inflation might do nothing to push yields higher; a lower reading on inflation could justify another drop in yields.
Risky US Economic Calendar
The mid-month move reveals a significant record of risk from US-based events. Several well-rated economic releases, coupled with the biannual testimony of Fed Chairman Jerome Powell, are a potential
- On Tuesday, July 13, the June US Inflation Report (CPI) will be released, with high inflation rates expected to persist. Also on Tuesday, the US federal government’s monthly budget report for June is expected to be released.
- On Wednesday, July 14, a separate June US Inflation Report (PPI) will be released, examining input costs for businesses (eg “out of the factory”). Fed Chairman Powell will travel to Capitol Hill for the first day of his testimony in Congress, reflecting the content of the July Monetary Policy Report released on July 9. Later today, the Fed’s Beige Book will be released.
- On Thursday, July 15, weekly jobless claims are expected ahead of the July Philadelphia Fed manufacturing index. Later, the June US industrial production figures will be released. Finally, Fed Chairman Powell will return to Capitol Hill for the second day of his testimony in Congress.
- On Friday, July 16, the June US Retail Sales Report was released ahead of the July Michigan Consumer Sentiment Preliminary Report, including 5-year inflation expectations. Ultimately, the U.S. Treasury Foreign Bond Investment Report and aggregate net capital flow data for May will be released.
Atlanta Fed’s New 2Q’21 GDP growth estimate (July 9, 2021) (graph 1)
Based on the data received so far on 2Q’21, Atlanta Fed GDPNow growth forecasts have again been revised downwards. After last week’s data, “the immediate forecast for real growth in gross private domestic investment in the second quarter has increased from [4.7%] at [5.1%] percent.“
The Atlanta Fed’s next 2Q’21 GDPNow growth forecast update is expected on Friday, July 16.
For full American economy forecast data, display DailyFX Economic Calendar.
US Treasury yield curve (1 to 30 years) (July 2019 to July 2021) (Chart 2)
Historically speaking, the combination of lower US Treasury yields and lower odds of Fed rate hikes created a difficult trading environment for the US dollar.
Fed a lot in the spotlight
The June US Inflation Report highlights the Federal Reserve’s narrative that price pressures are “largely transient.” And even though another hot inflation report is expected, markets are actually less convinced that the Fed will raise interest rates anytime soon; the action will be limited to gradually reducing asset purchases.
We can measure whether a fed the rate hike is integrated into the price using eurodollar contracts by examining the difference in borrowing costs for commercial banks over a specific time horizon in the future. Graph 1 below shows the difference in borrowing costs – the spread – for the contracts of July 2021 and December 2023, in order to assess the evolution of interest rates in the interim period between July 2021 and December 2023. .
ENLARGEMENT OF CONTRACTS TO FUTURE EURODOLLAR (JULY 2021-DECEMBER 2023): TABLE OF DAILY RATES (March 18 to July 9, 2021) (CHART 3)
Their following july the June report on the non-farm payroll in the United States, there were 107 basis points of discounted rate hikes by December 2023; now there is just over 88-bps at the entry price. Markets take a less hawkish view of the FOMC, clear and simple. Indeed, nearly 80% of a 25 basis point rate has been wiped off the table.
CFTC COT positioning of US dollar futures contracts (July 2020 to July 2021) (Chart 4)
Finally, in terms of positioning, according to the CFTC’s TOC for the week ended July 6 speculators passed from net-short to net-long, accumulatinga net long position in the US dollar of 7,564 ccontracts. While the positioning of the US dollar has hovered around fairly neutral levels over the past three months, the recent change in positioning now has the futures market the sharpest in the past 52 weeks.
— Written by Christopher Vecchio, CFA, Senior Currency Strategist