US Dollar: Fed hike risk and yields back in focus – MUFG

According to MUFG’s Lee Hardman, rising energy prices are pushing market expectations for further Federal Reserve tightening, with 17bps priced for the 16th September FOMC and the 2-year US Treasury yield at a year-to-date high. A September Fed hike could lift the Dollar, although policy risk premium and buyback-related debasement fears are seen as offsetting factors.

Higher yields versus policy risk premium

"Rising energy prices are encouraging market expectations for other major central banks including the Fed to raise rates further. The 2-year US Treasury yield climbed to a fresh year-to-date high yesterday at 4.41% helping to strengthen the US dollar."

"There are now 17bps of Fed hikes priced in for 16th September FOMC meeting. It will be harder for the Fed to leave rates on hold if energy prices continue to rise ahead of the meeting."

"Fed Governor Michael Barr spoke yesterday and he repeated the message from Jackson Hole. He stated “if trends in the data give me some confidence that inflation is moderating on a path to 2%, then I think we can take a bit more time to assess our policy stance."

"However, if inflation appears not to be moderating sufficiently, then I think we should act decisively to raise rates”. A September rate hike is not yet a done [deal] but soft NFP and CPI reports for August are likely required to prevent a hike."

"A Fed hike this month would pose upside risks to our forecasts for the US dollar especially if it marks the start of a tightening cycle. Support for the US dollar from higher yields and higher energy prices has not yet fully fed through to the US dollar which has been held back by the pricing in of a higher US policy risk premium."

"The US Treasury’s plans for bigger US Treasury buybacks to dampen long-term US yields has brought debasement fears over the summer weighing on the US dollar. "

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)