Sterling rallies again as interest rates rise worldwide, led by the rout in US bonds
19/Aug/2013 • Currency Updates•
The relentless rise in US rates continued last week. The 10-year Treasury yield rose about 30BPS, and is now a full percentage point higher than where they started the year, having closed the week above the 2.8% mark. Bund and Gilt rates also went up, although not quite as violently. Significantly, this rise took place in a week where US economic data was generally lackluster. Clearly, markets are increasingly convinced that the “taper” by the Fed will start in September, as we have been calling for. It seems clear that the long worldwide bull market in bonds that started in the early 80s is now over. The effects of this are not yet clear, although we are sticking to our call that US dollar appreciation will be a key consequence.
Macroeconomic data continues to surprise on the upside. Last week brought some excellent news for the prospects of domestic demand. Claimant count unemployment fell more quickly than expected. Although the unemployment rate did not fall, this was due to an entirely healthy increase in the rate of labour force participation. Good weather in July buoyed retail sales, which rose 2.5% m/m and are now running at a nearly 6% annualized growth rate in the third quarter. The MPC meeting minutes made it clear that these positive surprises are boosting the hawks in the Committee. There were no votes for further QE, and “some” members agreed that current rate expectations are justified by the data. Investors were clearly paying attention to the positive macroeconomic outlook, and Sterling was the star among G10 currencies, ending up the week up nearly 1% against both the Euro and the US dollar.
The Eurozone posted sluggish growth for the second quarter, on the order of 1.1% saar (seasonally adjusted annual rate). This came after six straight quarters of contraction, the longest recession experienced by the combined economies since the end of WWII. The overall growth figure reflects positive surprises in Germany and France, and still contracting economies in Spain, Italy and Greece. Core inflation in the Eurozone declined to 1.1%, reflecting the enormous amount of slack that still exists in the Eurozone, and confirming that any tightening of monetary policy by the ECB is still very far away. The widening gap in both rate expectations and economic performance with the UK weighed down on the common currency, which dropped again by slightly less than 1% against Sterling.
Last week brought mixed news out of the US economy. Housing starts and manufacturing production both disappointed somewhat, rising below expectations. However, weekly jobless claims dropped to yet another cycle low. Given the single-minded focus of the FOMC on labour indicators, investors took their clue from the latter and ignored the former, and bonds had another very difficult week in the US. US equities also stumbled by 1.5%, underperforming both emerging market and European equity indices. The end of the decades-long bull market in bonds that started in the early 80s will be the main driver of financial markets in the medium term. Although the impact in most asset lasses is not yet clear, rising US rates can only be a positive for the Greenback.