The main topic for traditional financial markets seems to be the situation on the government bond market, especially the US Treasury bonds. This may have to do with the systematic increase in their interest rates.
In August 2020, the interest rate on 10-year bonds of the United States was about 0.5 percent. Currently, it is already 1.44 percent, which is almost three times more. The rise in yields has accelerated since the end of January, roughly since the handover of power to the Joe Biden administration, which could have increased the chances of a $1.9 trillion aid plan for the US economy. Moreover, in recent days, US Federal Reserve Chairman Jerome Powell has not once mentioned the possibility of easing the rise in debt interest rates. This may mean that so far the Fed has no intention to control the yield curve or shift the burden of purchases towards bonds with longer maturities. The Fed chairman's comments only temporarily eased the bond sell-off. During his semi-annual testimony before Congress, Powell emphasized that the U.S. economy needs support and the Fed is committed to its current policy stance as the recovery remains uneven and inflation will continue to rise above 2 percent for some time to come. Powell also said the Fed has no plans to tighten economic policy by buying fewer assets or raising interest rates.
Across the Atlantic, on the other hand, rising yields are not to anyone's liking, as a massive bond issue to finance the European economy's recovery program from the epidemic is still in the pipeline. Already this week, the European Central Bank indicated that it would closely monitor the strong rise in bond yields. There is therefore a greater chance that it is in Europe, rather than the US, that the rally in yields will be subdued. This in turn could lead to widening spreads between the Eurozone and the US.
This situation could have a very significant impact on the currency market. If yields in the US rise faster than in Europe, this could be detrimental to the euro. What is more, it would be in favor of the ECB, which does not fully accept the EUR/USD rate in the region of 1.23-1.24. The increase in the spread difference between the US and other countries, including Japan or Switzerland, may also cause a sell-off of such currencies as CHF or JPY, but also and perhaps soon EUR. All of this could be happening until the Fed says to stop rising interest rates on US bonds.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
Materials, analysis and opinions contained, referenced or provided herein are intended solely for informational and educational purposes. Personal opinion of the author does not represent and should not be constructed as a statement or an investment advice made by Conotoxia Ltd. All indiscriminate reliance on illustrative or informational materials may lead to losses. Past performance is not a reliable indicator of future results.
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