Kit Juckes, Research Analyst at Societe Generale suggests that it has been fading yield support for USD as the dollar has lost further ground as the 10-year Treasury yield drops further in both nominal and real terms, outright and relative to the average of the DXY basket.
“The US economy hasn’t performed badly, but a cocktail of geopolitical concerns (notably, belligerence from North Korea), natural disasters (Hurricanes Irma and Harvey) and disappointment at the Trump administration’s lack of progress in delivering any fiscal boost to the economy has affected expectations about how far the Federal Reserve will tighten policy in the coming quarters.”
“Excessive bearish sentiment. At this point, sentiment about the outlook for the US economy and prospects for monetary policy are so negative that it would take truly awful economic data to justify a significant further dollar fall in the next few months. We expect both the start of Fed balance-sheet reduction and a further 25bp rate hike before the end of the year. To the extent such actions would be a surprise for the markets, they are likely to be the catalyst for the dollar’s downtrend to pause or reverse temporarily.”
“Policy divergence is reversing. The dollar downtrend will resume over the longer run, however. The US economy led the world into a period of faster growth, and the Fed led the way in the monetary policy tightening by a significant margin, but the economic and policy tide has turned, and the FX cycle is adjusting to that. The Bank of Canada has started hiking rates, the ECB will taper and the Bank of Japan will likely eventually change tack too. In short, policy divergence is no longer a factor supporting the dollar.”
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