In the second week of retraction, bond yields in the United States have influenced the movements of the US dollar, allowing risk assets to recover from their recent lows. While this shift in sentiment has offered a brief respite from negative market sentiment, the question remains whether this supposed short-covering rally can transition into a sustained risk-on phase. Additionally, there is anticipation that the Reserve Bank of Australia (RBA) meeting scheduled for Tuesday could have a significant impact on the AUD/USD currency pair as it might move higher from oversold levels.
During November week 1, members of the Federal Open Market Committee (FOMC) unanimously voted to maintain interest rates in the range of 5.25% to 5.5% for the second consecutive meeting. While they left open the possibility of future rate hikes, Federal Reserve Chair Jerome Powell's comments during the press conference emphasized concerns about rising yields and financial conditions, suggesting that further hikes may not be necessary. Market expectations for a December or January rate hike have also diminished.
Improved earnings, reduced fears of escalating Middle East conflicts, and a less hawkish stance by the Fed led to a short squeeze in risk assets and decreased demand for the US dollar. Wall Street experienced one of its best weeks of the year, with the S&P 500 and Nasdaq 100 posting substantial gains. Bond yields also eased, resulting in the second-largest declines of the year for 10, 20, and 30-year yields. The Bank of Japan made minor adjustments to its yield curve control policy, causing the USD/JPY currency pair to surge. Speculation arose that the BOJ might exit negative interest rates in the spring of the following year.
The upcoming week is filled with important events and themes that will likely shape market sentiment. Market participants are closely monitoring the developments surrounding bond yields and the US dollar. The RBA cash rate meeting, potential BOJ intervention, and critical economic data releases from China, including CPI, PPI, loan growth, and the trade balance, are some of the key events and themes that will drive market sentiment in the week ahead.
The recent focus on rising bond yields has led to concerns about a potential breaking point in the financial markets. This fear has driven the US dollar's movements in tandem with rising yields, adversely affecting forex major pairs, stocks, and commodities. However, as yields have become increasingly volatile around their highs and started to pull back, the US dollar's strength has been undermined, providing some relief to beleaguered markets. The recent acknowledgement by the Federal Reserve that rising yields might effectively act as a form of monetary tightening raises the possibility of no further rate hikes.
While the correction in the US dollar has allowed currencies like AUD/USD and GBP/USD to strengthen and USD/CAD to retreat from its recent highs, it is important to note that there is still a long way for yields to drop before a sustainable risk-on rally can be achieved. Market participants are keeping a close watch on assets like gold, WTI crude oil, the S&P 500, Nasdaq 100, and the Dow Jones for potential market opportunities.
The upcoming RBA meeting on Tuesday holds the potential to be significant, especially in the wake of the unexpectedly dovish Fed meeting. Strong inflation reports in Australia, both on a quarterly and monthly basis, have led to renewed expectations of a rate hike in November or December. While Governor Bullock attempted to temper her previous hawkish comments, suggesting that the RBA is still assessing the significance of the inflation data, it is likely that the central bank will raise interest rates.
It is doubtful that the RBA will opt for 25 basis point hikes in both November and December, particularly as they transition to a new schedule of eight meetings per year with press conferences. However, a hike on Tuesday would signal the RBA's commitment to managing inflation while keeping expectations anchored. Further rate decisions may be made in the early months of the following year. Market watchers are advised to monitor the AUD/USD, NZD/USD, AUD/NZD, NZD/JPY, AUD/JPY, and the ASX 200 for potential market reactions.
For a sustained revival in risk appetite, improved economic data from China is crucial. A broad-based strengthening of economic indicators in the region is necessary for global equity markets to maintain the recent rally. Strong import and loan growth figures would demonstrate China's domestic demand driving growth, in line with Beijing's objectives. Conversely, an increase in exports could indicate global demand but might lead Western central banks to maintain higher interest rates. Weak aggregate data from China could pose challenges for maintaining the bullish momentum seen in AUD/USD and US indices over the past week.