US: Higher yields should underpin the USD - Westpac

Sean Callow, Research Analyst at Westpac, suggests that the step higher in US yields should underpin the US dollar multi-week but AUD/USD might be able to avoid a break of December’s lows around 0.7500 at least early in the week, with price action becoming more two-way.

Key Quotes

“A jump in US bond yields and the US dollar has been the main story in financial markets since mid-April. The 10 year US Treasury note yield’s long-awaited break of 3.00% for the first time since January 2014 wasn’t simply due to increased investor concern over widening US budget deficits. There has been a sizeable move in market pricing for Fed tightening, with the implied yield for July 2019 up 15 basis points since early April.”

“Markets now price in a little more than 3 rate hikes by mid-2019. So by that time, America’s benchmark interest rate could be around 2.5%, while Australia could remain on 1.5% and the likes of the Eurozone and Japan should remain closer to zero than to 1%.”

“What’s not so clear is whether there was a particular catalyst for this increased confidence in ongoing Fed tightening. One positive is that trade tensions have slipped from the headlines as progress is made on NAFTA negotiations and the US’s final decision on tariffs on Chinese imports is not due until late May.”

“The global focus will of course be on the Federal Reserve’s policy decision (Thu 4am Sydney). Having raised rates in March, markets expect the Fed to pause at this meeting before hiking the funds rate in June. If the Fed statement remains upbeat and US data prints near expectations, then the US dollar should remain broadly supported.”

“However, US dollar price action in Friday’s New York session indicated that we could be in for a period of consolidation, especially given the many market holidays Mon-Tue. If so, AUD/USD might be able to avoid a break of December’s lows around 0.7500, while rallies run out of steam in the mid-0.76s.”