Higher US Rates Provides Little Benefit to the Dollar

For the first time this week, Treasury yields are moving higher but the rise in interest rates is providing very little benefit to the U.S. dollar this morning. Yields in other parts of the world are up by an even larger amount due to stronger data, reducing the significance of the move in U.S. rates. Part of the reason why the EUR/USD is trading at a 2 month high is because German 10 year bund yields are up 6bp today compared to the 3bp rally in 10 year Treasury yields. Given the downward revision in fourth quarter U.S. GDP and our expectations for a softer Chicago PMI and pending home sales report, there's a good chance that U.S. rates will continue to underperform.

The Bureau of Economic Statistics was overly optimistic when it made its first estimate for U.S. fourth quarter GDP growth. They expected growth to rise by 3.2% but as time passed and more details were revealed, the economy grew by only 2.4% from October through December. Downward revisions were seen in consumption, inventories, government spending and exports that were caused in part by the 16-day government shutdown. Prices were revised higher but the increase is not enough to raise any concerns about inflation. However Fed President Bullard used this opportunity to say the rise in core prices confirm that inflation is moving back to their target. Although GDP growth fell short expectations and the revision in consumption was particularly large, demand in Q4 was still the strongest since the first quarter of 2012.

The 2 main currencies underperforming the greenback this morning are the Canadian and Australian dollars. According to the latest economic report from Canada, the economy contracted 0.5% in December, slightly more than the consensus forecast. However on a quarterly basis, GDP growth accelerated to 2.9% from 2.7%, which is a bit surprising given the weakness in the monthly retail sales and trade numbers. The details of the Q4 GDP report shows that the expansion was driven by stronger consumer spending, business investment and exports. USD/CAD fell sharply on the back of the release and if the losses accelerate, the currency pair could give up all of this week's gains. As for the Australian dollar, the continued slide in the Chinese Yuan is catching up to the currency. USD/CNY rose to its strongest level since June 2013, reducing the purchasing power of the Chinese.