Real rates set to rise?

Hawkish signs from the Fed

Chart of the Day

The Fed delivered a hawkish message on Friday, as vice-chair Clarida said the central bank could discuss accelerating the pace of its tapering in response to the further sharp rise in inflation in recent months. If the Fed took some an approach, it would open the door to interest rates being increased sooner than the Fed currently signals. In response, there was a big upward move in the 5-year yield on Friday of 11 bp. It is still very low though, so if the Fed continues to move in this direction there could be further large increases in real yields to come. That could have some big effects on markets, especially for the USD, bonds and growth stocks.

Macro

In the UK, retail sales rose by 0.9% MoM in October, which pulled the annual growth rate to -1.8% YoY. UK consumer confidence there is looking pretty weak.

Markets

Despite the rise in the real yield, the nominal 5-year yield barely budged on Friday, and longer-term yields fell. Markets are saying that, if the Fed acts to increase real yields, that should have a big impact on bringing down inflation - but could markets be wrong about that? The 1970s showed us that once inflation gets out of hand, it takes more than a few small rate hikes to get it under control agian.

Investor positioning on 10-year and 30-year year bonds has now switched, with traders betting against 10-year bonds - i.e. looking for yields to rise - while no longer betting against 30-year bonds. Put differently, investors no longer expect the yield curve to steepen, but rather flatten.

The rise in the real US yield put further downward pressure on the euro, which is now below $1.13.

Following the pullback a few weeks ago, USD net longs are rising again - investors betting on more dollar strength in other words.

Even excluding the lira, the dollar has already appreciated strongly against several currencies this past month.

Oil prices has a bad week last week amid, while lumber is now rising rapidly.

The weakness in copper didn’t last long, as it bounced off its 200-day moving average.

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