FX Daily: Rising US Treasury Yields And Diverging US Dollar Performance

Low yielding currencies have stayed relatively supported vs the US dollar as the bond sell off continues, resembling the first phase of the 2013 taper tantrum.

USD: Rising UST yields and diverging USD performance

The recent FX price action has resembled the first phase of the 2013 taper tantrum when low yielding currencies stayed relatively supported vs USD (EUR/USD being the case in point), while it was the emerging market FX high yielding segment where the decline was concentrated. While equity markets have been down recently, this has been so far relatively modest, with the rise in commodity prices underscoring the economic growth-led nature behind the rising bond yields rather than any imminent market concerns about the Fed taking the punch bowl away. On the latter, we expect Fed Chair Jay Powell to strike a balanced message today between expressing confidence on the recovery while keeping tapering speculation muted. This should keep USD upside in check and support cyclical FX today. Only when the spike in US yields becomes more disorderly and spills forcefully into risk assets, would USD experience across-the-board strength. In Timing the Tantrum, we look at the most vulnerable currencies to a more meaningful rise in UST yields (South African rand among the high yielding EM FX, Czech koruna and Korean won among EM FX low yielders), but we note that compared to the 2013 taper tantrum, the fundamentals among EM FX have improved considerably, mainly within the high yielding segment which shows: (a) less stretched valuations; and (b) better current accounts. This should reduce the scale of the downside to EM FX should we see a further spike in UST yields.

EUR: ECB concerned about rising bond yields

While the European Central Bank is starting to be concerned about rising bond yields, a policy response does not seem imminent and it is the general USD environment that matters more for EUR/USD at this point. A cautious message from Powell today should push EUR/USD above the 1.2200 level.

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