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Faros Morning Update - Bonds in the Driver Seat

|Includes: CNY, ProShares Ultra Semiconductors ETF (USD)

 Bonds in the Driver’s Seat

Global bond markets continue to face greater than expected turbulence as we head into the US elections and FOMC decision next week where the focus will be on QE2 where size does indeed matter.  Initially there was talk of $100bn a month, then rumors that greater shock and awe was needed with one US investment bank implying more than $4trn possible and now we have a WSJ article today discussing potential for $200bn per month.  What is clear is that the market needs some certainty and a plan it can believe in.  A Fed that is vague or viewed as weak, will result in large scale turbulence in financial markets.  US 10yr treasuries are through the long term down trend line in yield terms and although bonds can have nasty reversals, failure to correct soon could mean the beginning of a larger move.


USD/CNY fixed 150 pips higher at 6.6912 and this added fuel to the risk reduction across the board from offshore community in the NJA currency space.  We saw USD/KRW, USD/MYR, USD/IDR etc all higher.  Comments from Korea that capital controls were off the table until at least the Nov G20 meeting, did little to help USD/KRW recover some of its rise.


The consolidation in AUD/USD continues as the weaker than expected CPI print sparked a shift in expectations of an RBA hike from 60% to 20%.  A local bank we speak to notes that their 3 market indicators for AUD/USD are now all flashing SELL signals.  These indicators are based upon metals prices, 2yr swap differentials and market sentiment.   


Better data out of NZ saw the NZD outperform the AUD and we saw a retracement of AUD/NZD back down to 1.3000 the bottom of the recent range.  A break here opens a move to 1.2909 the 50 day moving average. 


EUR/USD also facing further consolidation and the spread between US 2yr swaps and EU 2yr swaps appears to be forming a base, which could be worrying for the EUR/USD as the move in US treasuries continues to gain steam ahead of the QE2 announcement.  EUR/USD is again testing through the 1.3800 level as I write and we had traded as high as 1.3850 in the London morning after Asia had taken us down to 1.3770 area.  We heard of Asian central banks bidding on the lows and the BIS was also rumored to be involved on the lows as well.  Portuguese budget talks have collapsed for now and this is putting pressure on Portuguese debt with 10yrs wider by 15bps.  A Portuguese auction earlier in the session had gone better than expected.  Greek debt is 51bps wider in the 10yr after comments from Papendreou yesterday.


SEK continues to get pounded after yesterday’s Riksbank move and we saw highs through 9.3500 briefly before 9.3000 traded again and we are now 9.3400. 


USD/ZAR rallying aggressively this morning as we heard of model accounts flipping to long USD/ZAR after a lower than expected CPI print.  Odds of another rate cut are growing and we note the size of the USD/ZAR short position on the IMM which could lead to a further squeeze higher.  USD/ZAR has stalled at 7.0380 twice now and seems to be targeting the 50 day at 7.0787 in the short term with 6.9000 area the low overnight.


Poland left rates on hold with many in the market looking for a hike although Bloomberg consensus had rates steady at 3.5% inline with actual.  We heard of EUR/PLN buyers ahead of the release which pushed the pair above 3.9500 and we are 3.9481 now.


USD/BRL rallying after the open and on the back of other EM moves and Mendes was on the tapes yesterday talking about FX swaps as a tool, but no surprises there.  1.7160 is the Oct 4 high and the level to watch above for now.

Good Luck

Disclosure: I take no positions in any products I discuss