The rally in risk assets continues unabated, with equity markets continuing to post record highs. The fact that this is occurring in spite of weaker data from both the US and in particular Europe, highlights the trust and hope that is being placed on central banks to continue to deliver monetary stimulus in the months ahead. While many will question the dichotomy between equity markets, bond yields and economic data, there is little sign of this changing any time soon.
Spurred by a rise in US Treasury bond yields which in turn has been fuelled by better than expected US economic data the USD index has been driven higher. Disappointing data overnight in the form of the May Empire manufacturing survey, US Treasury TIC capital flows, and April industrial production led to a pull back in US bond yields.
Going forward much in terms of USD direction will depend on upcoming data and Federal Reserve speeches, with a relatively full calendar today including April CPI, housing starts and the May Philly Fed manufacturing confidence survey. Additionally there are no less than five Fed speakers on tap today, with any clues on a tapering off of asset purchases sought. The USD index is set to test its 2012 high of 84.10 but is likely to consolidate in the near term given the pull back in yields.
EUR continues to remain under pressure as it edges towards its 2013 lows around 1.2745, with a test of this level expected soon. Weaker than expected Q1 GDP readings from France, Germany, Italy and the over Eurozone dampened any ability of the currency to reverse losses.
The Eurozone has registered six straight quarters of contraction and any recovery is likely to be limited in the months ahead. Pressure on the European Central Bank to provide more monetary policy accommodation will only be reinforced by today’s release of the April CPI data (likely to be confirmed at 1.2%) leaving the EUR under further pressure. Near term technical support for EUR/USD is seen around 1.2772.
The JPY is facing a perfect storm of negative factors including a widening in US Treasury / Japanese JGB yield differentials, improving risk appetite and portfolio capital outflows from Japan. I expect capital outflows from Japan to intensify. Japanese life insurers have accounted for more than 20% of the net foreign securities purchases since 2011, and recent indications show that they are planning to increase their foreign bond buying.
Additionally the Japanese Government Pension Investment Fund has already begun to increase its proportion of foreign asset holdings. Portfolio data released this morning revealed that Japanese investors continued to channel money overseas. Near term resistance for USD/JPY is seen around 103.50.