The US dollar (USDX, EURUSD) has been in decline despite rising interest rates (the dollar is up slightly today, but it looks like a blip compared to 10 Year Treasury yields that are banging UP against major resistance; TNX, TYX, TLT, TBT, UBT), which leads me to conclude that some of the selling is foreigners moving out of dollars by selling U.S. Treasuries to buy foreign debt and foreign stocks that have been rallying.
Why they are selling U.S. Treasuries does not matter, but let’s play anyway. In Europe, investors may have sold U.S. Treasuries to ride the “Draghi train” to sub-zero rates. That would cause U.S. rates to rise, and Euro rates to fall. And they are also using the proceeds to buy European stocks that have been rallying. It could also be that the Chinese are already selling or will sell U.S. Treasuries to pressure the U.S. into allowing the IMF to declare the yuan a reserve currency in October. I favor that the prior influence is much greater, and the latter is obviously highly speculative.
Recently the dollar HAD BEEN getting stronger based on the notion of higher Fed rates (not necessarily a correct assumption, because higher short rates can flatten the curve by causing long rates to fall while short rates rise).
Short dated Treasury yields should rise in that circumstance, while long dated Treasuries like 10 and 30 year issues should decline in yield, all else staying equal.
Or is it the threat of a weakening U.S. economy or the Fear of the Fed driving longer rates higher? Many would disagree with this notion, but again, let’s play with this a bit. What has changed could be that 1. the U.S. economy is not as strong as hoped, which depresses interest in U.S. stocks by foreigners, who are already running to their own stock markets due to falling rates, resulting in less dollar demand and hence, less demand for U.S. Treasuries. 2. Rates are rising due to Fed threats to lower the Fed Funds rate off zero, which could ironically tank the U.S. economy and force it into recession, which is always a big negative for stocks. A bad economy means a weaker dollar in the end too. A weaker dollar means higher borrowing costs and yields eventually. Investors don’t want their money in a country with a failing or slowing economy, as then their debts may not be paid off. If rates were rising because the U.S. economy is actually strong, then the dollar would be rising. It’s now weakening.
In the end, I believe the main influence on Treasury yields has been the higher demand for central bank debt outside the U.S. U.S. rates became low enough that the remaining returns seemed too low compared to other options, despite already LOWER yields in some of those foreign locations.
A lot of this could be short term speculation driven by Dr. Draghi of the European Central Bank (ECB) in the Eurozone, where German Bunds were recently showing negative yields out EIGHT years on the curve. That means you had to PAY to hold an 8 year German bond. German Bunds are now “only” negative out for 4 years today after Bill Gross said on April 21st that they were the “short of a lifetime” Not talking his book was he? Naaaaaaaah. ; ) (I like Bill anyway. ; ) He says what he believes to be true and is often right.)
In the end, as long as the Federal Reserve is not behind on preventing >2% inflation, higher short Fed rates should push longer term interest rates DOWN, flattening the yield curve, and causing Treasuries/Bonds to rally, not sell off as they’ve been doing. The recent moves seem most likely to have been motivated by better prospects outside the U.S.
But guess what? As it’s nearly impossible to sort out which headwinds vs. tailwinds will win, we follow the market timing charts for our final call.
So far, the recent charts say dollar weaker, gold up weakly, stocks up a bit without making new bold highs, and rates rising but nearing resistance.
If too much inflation does show up eventually, the bond market will drag the Fed into raising rates whether they want to or not, as they have a dual mandate of adequate employment (which they have no clue as to how to determine) PLUS 2% inflation. Until then as the world fights off slower economic growth, that does not appear to be an imminent threat.
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The past few days are a reaction to rising rates outside the U.S., which believe it or not were preventing U.S. rates from rising faster than they otherwise would have. Rates are always taken on a relative basis. Beyond that, there are other things playing out including the rise of China as a financial power. It has been a manufacturing power and is now making the transition to create modern capital markets (work not done yet). You can see their growing pains with PE’s in Chinese A shares now at 50 vs. 20 for the U.S. due to margin speculation. Until this past year, China has prevented all foreign involvement in their A shares. You cannot be taking seriously with closed markets like that. Again, the work is underway, but not done.
Thank you David, is this market action just another example that the rest of the world is serious about ending the dollar as the favored world currency.