The topic of a significant increase in US debt yields can hit the major currencies against the dollar. Both the EUR and GBP saw strong returns at the end of the week as the US 10-year note interest rate surpassed the 1.6% level.
The euro weakened towards $1.2100 on Friday after hitting a one-month high of $1.2240 on Thursday on optimism that the restrictions had ended and economies in Europe were reopening. Meanwhile, concerns over delays in the delivery of the COVID-19 vaccine intensified and economic data gave a mixed picture of the pace of the Eurozone recovery. France's economy contracted by 1.4 percent in the fourth quarter, more than initially thought, while household consumption in December also fell more than expected. Meanwhile, February inflation in France came in higher than expected, while consumer prices in Spain were unchanged. Last week's European Central Bank meeting minutes showed that officials agreed that headline inflation remains very low and still far from the central bank's target, and that further euro appreciation poses risks to the inflation outlook. Additionally, the ECB believes that rising bond yields could hurt the economy, which needs cheap financing. Hence, it seems that the EUR/USD pair may find it very difficult to break above the 1.23-1.24 level in the near term. In turn, the chance for a test of 1.17-1.16 is getting bigger.
Returning to the currently key topic of bonds, where Thursday saw a significant wave of selling on Friday, the global bond sell-off seems to be slowing down, with the yield on 10-year US bonds falling below 1.5% after reaching a more than one-year high of 1.61% on Thursday. Investors seem to continue betting on a strong economic recovery spurred by further fiscal stimulus, low interest rates despite dovish comments from several central bank officials, including Fed Chairman Powell, who said the recovery remains uneven and monetary support is still badly needed. Treasury bonds have been gaining ground since late January, when Democrats won control of the U.S. Senate, on inflation concerns stemming from strong economic activity and continued fiscal support.
It appears that the rapid rise in expectations for economic recovery and rising inflation may have temporarily spooked stock market bulls, who may expect faster monetary tightening than originally expected. In addition, the interest rate on 10-year US bonds was already higher than the dividend yield for companies in the S&P 500 index. Further, some investors may have rebalanced their portfolios and reduced the share of risky stocks in favor of safe bonds, whose price became more attractive. Nonetheless, it seems that yields of 1.5% are still not enough to convince stock buyers to move into safe bonds on a large scale in the long term. Hence, the current declines in indices may be treated as a correction in the uptrend.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
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