USD survives, thrives in low vol climate…and a "trial by fire" for treasuries

USD survives, thrives in low vol climate…and a \"trial by fire\" for treasuries

Alan Plaugmann says volume after break below key support on today’s ECB press conference will set tone for fixed income…and Kristian Siggaard-Jensen discusses USD outlook despite \"mostly neutral\" Fed.

Kristian Siggaard Jensen is bullish on USD today as the greenback found support from an FOMC statement that nodded to elevated inflation as its greatest concern. \"What mystifies many of us in the market is that if the Fed is so gravely concerned about inflation, then the logical thing is to hike the benchmark rate. A hike is a far easier course of action in the short term. If growth stays low you can roll back rates, but at least you’ve capped inflation,\" he says.

So why is Bernanke, at this late stage of the game, sticking to a stubborn course of inaction? Kristian Siggard-Jensen offers the following analysis.

\"The US housing market is the real kicker – it’s been the primary support of not just the dollar but the US economy over the past 3-4 years and it is now apparent to the market that it’s peaked. The assumption was that a housing market slowdown would alleviate levels of consumer spending, but this hasn’t really played out because the US labor market remains so tight. US consumers have no problem continuing to spend money despite woes in the housing sector,\" says Siggaard-Jensen.

In the short term, look for USD strength on back of generally low volatility in the foreign exchange market.

\"USD is a high yielder, so an environment of low volatility is fundamentally bullish, all other things being equal. Similarly, low volatility is bearish for JPY, which is a low yielder, so look for Asia-based carries to perform strongly today – aided by very strong job figures out of Australia and New Zealand, the most popular counterparts to the JPY carry,\" he adds.

Equity strategist Torben Krogh Nielsen notes the interesting diversion in reactions of stock and bond markets (the former bounding higher, the latter selling off heavily) following yesterday’s FOMC statement. \"Had the Fed focused more singularly on the inflationary threat and the imminent economic slowdown, the reaction would have been more extreme. But as seems to be case with so many data releases these days, business as usual is good enough for the equity bulls and there is hardly any data release these days that can shake their vise grip on the market.\" Krogh Nielsen is also guardedly bullish on DAX, owing to USD strength on back of the FOMC statement. He says 7450 is the key level for a close today, but is conservative about positioning ahead of BoE and ECB rate announcements. US equities will move in concert with tomorrow’s retail sales figures – but don’t expect the release to dent the prevailing robust market sentiment. \"Equity markets made it through FOMC without a scratch, so we don’t expect any drama on back of retail sales tomorrow,\" says Torben Krogh Nielsen.

Futures strategist Alan Plaugmann expects a \"trial by fire\" for European fixed income today on back of BoE and ECB rate decisions. \"Consensus in the market is that the BoE will hike by 25 bp, despite outlier predictions that a 50 bp hike may be in the offing. Normally this lends a bit of volatility prior to ECB, which is more conservative in its rate policy and transparent in its comments than, say, The Fed. The expectation is that ECB will hike in June, so Trichet’s tone in the press conference from that point onward is critical,\" says Plaugmann, adding:

\"If the ECB indicates no more hikes, we’ll see a lift in fixed income. If ECB indicates vigilance with respect to the European inflationary threat, it’ll be a bloodbath for bunds. From there, the action will turn quite technical as bunds break below major support levels from 2004. This is uncharted territory for European fixed income, and if volume builds following a break below these levels, it’ll be significant. If there’s no pickup in volume, we expect a test of the lows followed by a reversal higher.\"