Incrementally Hawkish Fedspeak Fuelled USD Rally

3 June 2016

Rates & FX Markets Monthly Review

Incrementally Hawkish Fedspeak Fuelled USD Rally

Highlights

¨   US & UK: Strong uptick seen in USD, 2y UST yields as June hike remains on the cards. Mildly disappointing NFP (160k; consensus: 200k) was partially softened by an uptick in wage growth (2.5% y-o-y), although other data continues to paint a mixed picture. Relatively hawkish Fedspeak and FOMC minutes helped to normalise investors’ bearish rate expectations, spurring a c.3% gain in DXY and a c.10bps uptick in 2y yields, although losses were relatively muted in longer-dated papers; strong UST auctions indicated lingering scepticism over rate normalisation. In UK, GBP outperformed non-USD peers alongside a decline in GILT yields as the “remain” camp continues to gather momentum, although event risk remains high with 1M implied volatility surging to c.19%. While UK data softened further, BoE’s Carney voiced that a “remain” decision can still support higher UK rates over the medium term.

¨   Eurozone: EGB yields edged lower m-o-m despite higher UST yields and supply concerns. Yields on EGBs fell 3-19bps m-o-m on expectations for an accommodative ECB, driven by softer-than-expected 1Q16 GDP alongside tepid CPI. A temporary resolution with Greece securing a bailout fueled the rally in peripheral EGBs; Ireland’s credit rating upgrade and the decision to postpone sanctions against Spain and Portugal for failing to adhere to fiscal targets supported sentiment as well. However, EURUSD failed to sustain gains, declining 2.79% m-o-m on the strengthening dollar and widening yield differentials. 

¨   Japan & Australia: Japan dodged technical recession; RBA cut rates by 25bps. USDJPY tested its 1-year low of 105.55 before ending the month 3.97% higher at 110.73 as the yen retraced its strength on fears of intervention. While keen attention was on the G7 meeting in Japan, it turned out to be a non-event, as PM Abe failed to orchestrate a concerted effort towards global fiscal stimulus while resistance towards FX intervention remained. Japan avoided a technical recession, with 1Q GDP underpinned by stronger public and consumer spending; movements on JGBs remain subdued as BoJ purchases continue to dominate the market. Over in Australia, ACGB yields and the AUD tumbled sharply as RBA slashed the cash rate by 25bps to 1.75%, alongside a downgrade in its inflation forecast to 1-2% in 2016 (previous: 2-3%); minutes later indicated that the decision was a close call. The strong 1Q16 net exports spurred optimism towards Australia’s growth, although capex trends and labour improvements remain challenging.

¨   Developed AxJ: Outperformance in HKGBs attributed to HKD strength. Yields on SGS climbed 2-24bps in May alongside USDSGD (+2.49% m-o-m), as the broadly hawkish Fedspeak drove USD inflows; demand for the 10y SGS new issue was strong, given wide spreads above the 10y UST. Sluggish NODX and GDP prints continued to dampen economic outlook, fueling lingering expectations for MAS to ease the SGD NEER further in October. Meanwhile, while BoK’s decision to hold rates was unanimous, minutes from May’s MPC meeting echoed market’s bias for a 25bps BoK rate cut, keeping yields on KTBs subdued; KRW was not spared from the FX positioning towards USD, with the pair climbing higher by 4.61% m-o-m towards the psychological 1200 level. Elsewhere, despite the low nominal yields, HKGBs remained attractive given the relative outperformance in HKD (-0.18% m-o-m) vs its AxJ peers, with yields declining 1-7bps m-o-m, contrasting from broadly higher yields seen in AxJ.

¨   Emerging AxJ: MYR led the underperformance in AxJ FX. Depreciation pressure for CNY mounted, exacerbated by downside surprise in aggregate financing print, as PBoC set the Yuan fixings weaker amid the strengthening USD, driving the USDCNY pair higher by 1.66% m-o-m. CNY-CNH spread widened to a high of c.400bps, fuelling speculations of probable PBoC intervention, prompting assertions for PBoC to take a step back on its FX reforms amid FX stability concerns. In Malaysia, the impact of the strengthening USD overshadowed movements in oil prices near the USD50/bbl psychological level; MGS yields remained resilient as BNM held rates. 1Q16 GDP came in better than expected at 4.2% y-o-y, but underperformed 2015. Turning to Thailand, the strong 1Q GDP print (3.2%; consensus and 4Q15: 2.8%) dampened near term expectations for a BoT rate cut as the central bank continued to reiterate their preference to preserve policy maneuverability, driving ThaiGB yields 20-51bps higher m-o-m; USDTHB climbed 2.49% to 35.77. In Indonesia, USDIDR surged past 13,500 in the biggest reversal YTD, while IndoGB movements were less pronounced, with 10y yields c.15bps higher. Inflation declined to 3.60% y-o-y in April, supporting dovish expectations even as BI stood pat. 1Q16 GDP came in a touch softer, prompting a 0.2ppt GDP forecast downgrade by BI alongside renewed vows by the finance minister to speed up fiscal spending in 2Q16. The INR was relatively shielded versus AxJ peers m-o-m despite softer data, although higher inflation constrains RBI’s ability to ease; intensifying speculations over governor Rajan’s reappointment may have also hurt sentiment.