US yields: The heat is on – Westpac

Sean Callow, Research Analyst at Westpac, notes that the key global market theme has not changed over the past week. US Treasury yields continue to press higher, producing shock waves in many markets.

Key Quotes

“Most pertinent for the Australian dollar is ongoing pressure in Asia. So far this month, foreign investors have sold a net - $1.7bn in Indian equities, -$3.3bn in Taiwan, -$1.1bn in Korea, -$0.85bn in Thailand and -$0.6bn in Indonesia, to a name a few. There have also been large outflows from Asian bond markets e.g. -$1.8bn from Thailand.”

“But the actions of local investors may be equally important. Chinese media has included various calls for yuan depreciation to be stepped up before US presidential inauguration day on 20 Jan. Despite caveats on the underlying strength of China’s economic fundamentals, the short term implications for Chinese investors of such calls are clear – sell your yuan now before it falls further.”

“With US 10 year Treasury yields probing above 2.40% ahead of the Thanksgiving holiday, Asian currencies seem set to remain on edge in the week ahead, keeping a lid on AUD rallies that might seem justified by ongoing strength in commodity prices.”

“When might the pressure ease? Perhaps the FOMC’s 14 Dec meeting. Markets are pricing the chance of a 25bp funds rate hike (to 0.5-0.75%) at about 95%. But what will the Fed say about the 2017 outlook? Last week we noted the surge in mortgage interest rates, up almost 50bp since the election. The surge in the US dollar will weigh on import prices for some time. Since 2008, core PCE inflation has spent a grand total of 2 months at or above the Fed’s 2% target.”

“But until this potential “dovish hike”, the heat is likely to remain on Asian currencies (and many other EM currencies). This should keep AUD/USD on the back foot, with price action uncomfortably reminiscent of the Q2 2013 global “taper tantrum”.