Something extraordinary is going on and nobody is quite sure what it is

Outlook

Something extraordinary is going on and nobody is quite sure what it is. The bond market yesterday did a loopdy-loo and so did the dollar. But are they actually connected? Coincidence does happen and correlation doesn’t always mean causation. The euro had already bottomed when the 10-year yield spiked.

We have the dollar falling back fairly hard at the same time gold and bitcoin are also falling, so not a safe-haven effect. Oil also retreated.

Separately, we have several analysts saying “See—inflation is moderating.” They point to shelter and food costs on the way down. But go back and look at those charts. It’s not much of an improvement, it can turn on a dime, and most important of all, we have not yet seen the tariff effect. The tariff on those small packages from China goes into effect today.

This seems to be the thinking among Fed funds futures traders, who are pushing out Fed rate cuts into Q4, probably Oct (86.8% see one cut or more).

The big question in FX is whether and to what extent other countries are shunning the dollar in disapproval of Trump and all his deeds, plus plain, old-fashioned fear of any upcoming punishments he may decide to mete out, and in the end, blind uncertainty. Japan, for example, wants their cars off the table in tariff talks. Trump gave it to the UK. (Clearly Japan should invite Trump to meet the Emperor.)

Another oddball effect is the shifting of expectations in favor of China getting better growth than thought while the US will get less. See the chart of the offshore yuan—a very nice double top that has had the neckline broken, meaning an ongoing falling dollar if the pattern works this time.

Finally, sentiment toward the dollar and Treasuries will be affected by the budget talks, if they are not already. It seems clear that the deficit is going to be higher still, even if taxes go up on the rich and benefits to the poor are cut. Musk failed to deliver savings of any great amount and Trump spends like a drunken sailor (for example, flying seized prisoners back and forth from state to state and Guantanamo).

Reuters picks some serious points: “Ten-year Treasury yields are stalking their highest levels in three months at about 4.47%, with the perceived risk of holding long-term debt reflected in the so-called "term premium" hovering at 10-year highs around 70 basis points.

“The Congressional Budget Office's long-term debt outlook in March assumed a 2025 10-year Treasury yield of 4.1%, but it's averaged 4.4% for the year to date and is going in the wrong direction.

“Even given the CBO's benign assumptions, it still sees federal debt topping 100% of gross domestic product this year for the first time since World War Two and then rising to almost 120% in 10 years and 156% by 2055.”

As noted many times before, the deficit is often a big talking point but has not yet delivered a blow to the dollar. This time could be different.

Forecast

So much is wrong about the current US environment that even a shocker like the 90-day pause on the China tariffs cannot overcome it. We are going to get inflation and everyone knows it. Remember that a few months ago some analysts (like ECR Research) said a hike may be the result, not a cut. This is politically too dangerous but with giant budgets/deficits and mismanagement and corruption in the White House, confidence in the dollar is fading fast. We had predicted some time ago that the inflation-driven term premium has to go up to keep ‘em coming into Treasuries. It’s a bit early, but that is still in the cards.

Tidbit: The St. Louis Fed just sent a promotion for the Fed’s history website. No idea how long it has been around but a Fed researcher just wrote a big paper on the history of the Fed and the site features some of it. If you are in the mood, check out the first chapter about the pre-Fed history of money and banking in the US. A bit stuffy but makes one understand why the Fed really is a good idea.

Political Tidbit:  The Trump camp is dumping leftie projects like clean energy and subsidies to research universities in order to pay for their own projects. Somewhat weirdly, they are also embracing formerly leftie causes like lowering drug prices, higher taxes for the rich and exempting tips and Social Security payouts from taxes. The FT notes this is in part because the Republicans fear losing the midterm elections as they did in 2018. 

This is an excerpt from “The Rockefeller Morning Briefing,” which is far larger (about 10 pages). The Briefing has been published every day for over 25 years and represents experienced analysis and insight. The report offers deep background and is not intended to guide FX trading. Rockefeller produces other reports (in spot and futures) for trading purposes.

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