HomeContributorsFundamental AnalysisAs Markets Underestimate Fed's Hawkishness, The Dollar Is Set To Rise

As Markets Underestimate Fed’s Hawkishness, The Dollar Is Set To Rise

Markets continue to reassess the outlook for US monetary policy. It is a long process affecting capital worth trillions of dollars, and it is not a simultaneous process for all markets, so it is important to look for signal points in several assets.

Debt markets have also been reassessing the outlook since last week. Long-term US government bond yields have reached 1.31% compared with lows of 1.12% last week. Previously, 10-year yields were falling from May to the end of July, hardly business as usual amid a booming economy and accelerating inflation.

The 1.2% yield for UST10 acts as a kind of line on the sand. In February, a rise above this level accelerated the EURUSD decline and sent S&P500 into a 6% correction.

The equity index is avoiding a correction these days, but it has lost its upside momentum despite solid data. This could be an early sign of the market’s altitude sickness, struggling to move further from current levels.

Another such instrument is the performance of the EURUSD, the most famous pair in FX, representing the regions with the largest economies.

EURUSD today is near a 4-month low at 1.1730, less than 30 pips above the lows of late March. The 1.16-1.17 area has repeatedly acted as support in the pair over the past 13 months.

Over the past year, there has not been a significant reversal. The USA’s economy and its labor market are often hit hardest initially by recessions, but they are the first to recover. So, the USA could be among the first majors to roll back its crisis measures.

Moreover, Fed officials continue to signal that this could happen more quickly than the market suggests and increasingly talk about it. This is an essential point, as markets have the only experience when the Fed and other central banks have repeatedly extended easing and growth forecasts have been downgraded time after time.

This time is different (at least so far), but it is as if the stock markets do not notice it too much, continuing to buy up the slightest dips in shares. However, investors should take the signals of the debt and currency markets, the “smartest” and liquid markets, seriously. These markets can take a long time to change course and gain momentum, but betting against them is like picking pennies in front of a steam roller when it picks up speed.

 

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