Not “risk-on” or “risk-off”, rather What’s the risk?

In the past fortnight US Treasury yields across the maturity spectrum have oscillated in reasonably wide ranges, with the highs coinciding with the release on 13th July of US CPI-inflation data. The shape of the yield curve today is almost the same as it was on 8th July.

The US rates market has tentatively found its feet, for now at least — tentatively because volatility remains reasonably high both in terms of yield levels and yield spreads.

The pace of Dollar NEER appreciation has also slowed and volatility remains low while the S&P 500 and Brent crude oil price have been choppy in multi-week ranges.

The inverse correlation between the Dollar NEER and S&P 500 has somewhat broken down so far this month. We estimate that since 28th June the S&P 500 and Dollar NEER have respectively gained about 1.8% and 1.2%.

In that sense the Dollar has not traded like a “safe-haven” asset, at least not in the purest sense of the term in our view. Instead the appreciation in the Dollar NEER since 10th June has largely coincided with the flattening of the 2s-10s Treasury curve.

Finally, the relative performance of major currencies does not clearly point to either “risk-on” or “risk-off” having prevailed, in our view. Since the 36-month low in the Dollar NEER on 10th June, weighted-baskets of EM currencies (excluding Renminbi) and developed market currencies have both depreciated about 3% versus the US Dollar.

Our overall take is that US (and global) markets in recent weeks can neither be categorised as “risk-on” or “risk-off”. Instead it has been a case of “what is the risk?”.

Specifically we think markets are still weighing whether i) they should be more concerned about a potential slowdown in US and global growth or CPI-inflation remaining sticky at high levels and ii) how central banks will adjust monetary policy, in terms of their QE programs and outlook for policy rate hikes (an arguably granular picture at present).

Macro data point to rapid global economic growth having slowed in June (but remained positive) and we will elaborate on our outlook in the next FIRMS report.

Sign up for a 30-day free trial with 4X Global Research and gain access to exclusive content from Olivier Desbarres.