MONETARY POLICY
most obvious casualty will be the short end of the bond market i.e. the two to three year part of the curve. With Fed Funds rate expected to be 2.25% by end 2016, current two year yields at 0.42% and three year yields at 0.89% just look too low. We expect a bear flattener in this scenario where short end yields rise more than five and 10 year yields.
A medium term b e neficia r y should be the US Dollar. In the last 12 months or
so, the US
Dollar has been somewhat weak against
the As QE
Euro, Sterling and Swiss Franc although r el a t iv ely stronger against em er g i n g market and commodity currencies. It seems that QE has been quite a headwind for
comes the to an majority end of
As for the equity markets, we still maintain that the ending of QE will be a real headwind and the risks of a big correction are increasing.
Despite the possib il ity tha t the equity ma rket could buckle
a s QE is ended and r a te rises be come pr ic ed and
rises are priced into the market, we expect the US Dollar to be strong against
currencies the
Dollar and so, as QE comes to an end and rate rises are priced into the market, we expect the US Dollar to be strong against the majority of currencies. This process may be somewhat stilted in the next few months, but the bullish trend should become obvious quite soon.
in and the fact that this financial ma rket weakness may even dampen down e conomic growth, it appears that we have a more hawkish FED to contend with.
We need to be very attentive
about understanding how far the FED may
tighten policy.
We expect that policy will be tighter over the next two years
We would also point out that FED tightening cycles combined with a stronger US Dollar have historically been bad news for emerging markets therefore, despite significant under- performance in recent months, we would counsel caution in these markets for the time being especially with uncertainty over China (both growth and debt
rate problems) remaining high.
We are entering a period when it will be more difficult for buy and hold investors to generate positive performance and we strongly believe a more tactical approach to investing makes perfect sense at this stage in the cycle.
Stewart Richardson FX TRADER MAGAZINE April - June 2014 13
FX
unless there is a serious risk of a new economic recession. In this scenario, the US Dollar looks attractive to us as do curve-flattener trades (bearish front end versus long end) and the equity market looks more vulnerable.
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