From our friends at SaxoBank:
Market Comment:
The UK’s RICS House Price Balance continues to show improvement, with only 44% more estate agents seeing falling rather than rising prices vs. the low of worse than 90%. This improvement will begin to show up in the lagging housing surveys like the DCLG survey out this morning. Still, negative is negative, regardless of the derivative, even if this points to a less brutal rate of decline for homeowners in the UK. The pound responded well to the news, in any case, with EURGBP all the way back down below its 200-day moving average and looking like it wants to challenge the recent 0.8580 lows
The most important market input at this juncture is the massive rise at the short end of the government yield curve and extremely sharp flattening of the yield curve after it reached record steepness (as measured by the 2-10 yield spread) in the US. The US 2-year benchmark has risen as much as 50 basis points over the last few days, and the German 2-year yield has risen a bit over half that amount. What does this mean? The simple answer is that the market is so optimistic about the prospects for a recovery to continue to take root that the . The more complicated answer looks at market positioning and the idea that the steepening trade, with the assumption that the Fed will forever hold down the short end of the curve while it loses control over the long end of the curve despite QE-like efforts, was extremely crowded and that significant forces in the market decided to challenge the lazy consensus.
In any case, the US yield curve flattening has jolted the USD back to the upside as the market seems to be focusing more on the novelty of this phenomenon and perhaps the good old fashioned yield differentials that used to drive FX rates rather than on any broader indicator of risk sentiment. As for risk indicators, they have gone nowhere the last couple of days, with inconclusive gyrations in equities and virtually no movement in other risk measures, like credit markets and corporate and EM debt spreads. On the commodity side, oil is still elevated, and yet gold corrected sharply lower with the USD move – an interesting divergence.
So what about going forward? It is hard to imagine that yields continue to spike at the front end of the curve for much longer – is the Fed really about to hike rates? This is difficult to imagine considering the state of the US economy, the V-shaped recovery prediction of equity markets notwithstanding. So USD strength through a further rise in rates is not likely to be sustained beyond the shortest term. Rather, the key test for the USD will be when (and IF) risk aversion ever really returns in force.
