US Dollar Broadly Higher as Bond Yields Jump After Holiday

Talking Points:

• US Dollar soars as Treasury bond yields jump after Columbus Day holiday
• Kiwi Dollar sinks after RBNZ’s McDermott says further easing is required
• British Pound keeps falling as hard Brexit fears continue to sweep markets

The US Dollar outperformed and the yields-sensitive Australian and New Zealand Dollars as well the Japanese Yen tumbled as US bond markets reopened after the Columbus Day holiday. Treasury yields moved sharply higher, seemingly reflecting growing conviction in the proximity of a Fed rate hike. The priced-in probability of tightening before year-end now stands at 68 percent, the highest in four months.

The Kiwi bore the brunt of the selloff after RBNZ Deputy Governor John McDermott said that further monetary policy easing will be required. As it stands, OIS rates suggest the markets see the probability of a 25 basis point reduction in the benchmark cash rate at the central bank’s November policy meeting at 76 percent.

The British Pound stayed on the defensive as markets continue to reel from last week’s epic “flash crash”. The tone of rhetoric remained tense as Eurogroup leader Jeroen Dijsselbloem warned that the UK won’t be able to “cherry-pick” elements of EU membership. Commenting after a meeting with his UK counterpart, Danish Prime Minister Rasmussen said he still had no idea what kind of deal was being sought.

Meanwhile, the Times newspaper cited leaked Treasury documents suggesting a “hard” Brexit that leaves the UK shut out of the EU single market will cost the country £66 billion per year in lost tax revenue. The analysis also projected deeply negative implications for trade, foreign investment and overall GDP growth in this scenario. Hard Brexit fears surfaced after the Conservative Party Conference last week.

Looking ahead, S&P 500 futures are pointing firmly lower, hinting that worries about imminent US stimulus withdrawal and Brexit-linked instability are evolving into broader risk aversion. This has potential to continue feeding US Dollar strength and may offer a lifeline to the Yen if yield-based considerations are overwhelmed by carry trade liquidation.

The German ZEW survey of investor confidence headlines the data docket in European hours. Sentiment is expected to improve but this seems unlikely to carry much market-moving potential considering the limited implications of such an outcome for ECB monetary policy. Alternatively, a downside surprise – perhaps fueled by Brexit-inspired jitters – may play well into the risk-off narrative already underway.

Where are financial markets heading in the fourth quarter? See our forecast and find out!

Asia Session

European Session

Critical Levels

--- Written by Ilya Spivak, Currency Strategist for DailyFX.com

To receive Ilya's analysis directly via email, please SIGN UP HERE

Contact and follow Ilya on Twitter: @IlyaSpivak