The US dollar is bouncing from the 94+/- support zone. I do not have a read yet on whether it will continue to bounce to heavy resistance or drop further into support in the short-term. Yesterday’s post gave some perspective on this.
I do want to look at some related areas, however. It gets a little complicated in that usually we would not associate a climate of growing inflationary concerns with a strong dollar. But the charts below show the TIP-TLT ratio rising in line with commodities as would be expected, but also the 10yr-2yr yield spread holding firm with the potential to be bottoming.
My question is, could the yield curve rise under the pains of recently increasing inflation expectations (that is one reason the curve can rise, with long-term yields out performing short-term yields, painting the Fed behind the curve) but eventually bring on a market liquidity problem? That is the other reason the curve can rise, as short-term yields decline faster than long-term yields. That would be supportive of the USD as a receptacle of a flight to safety out of asset markets.
TIP-TLT (an inflation expectations gauge) has A-B-C rallied throughout 2015. Fair enough. The ‘inflation bounce’ was expected.
30 year yields look very similar. So it’s a rising yield situation with some increasing inflation tensions.
The most commonly used yield spread, 10yr vs. 2yr continues to hold aloft above the 50 day moving averages. It’s not inspiring anyone yet. This would by the way, be a picture that would bring gold back to the forefront in investors’ minds if it were to rise for inflationary reasons (long-term yields rise faster than short-term) or deflationary/market stress reasons (rush to short-term liquidity vehicles) and pressuring short-term yields vs. long-term yields.
Option 2 is the scenario under which gold and USD could firm vs. most assets, not unlike Q4 2008, and eventually most benefit the gold stock sector.
For now we are managing an expected bounce in the inflation stuff. Both TIP-TLT and the 30yr yield are nearing potential limit points. That would be the A-B-C counter trend bounce/rally scenario.
But the spread between the 10’s and 2’s (or the 10’s vs 1’s and 30’s vs 5’s below) is a key in interpreting coming events.
It was noted above that this stuff can be confusing. Okay, so we are confused. But we are also the people who want to get the markets right. Future asset market moves are often best determined by Treasury bond market trends. As of now those trends are…
- Inflationary indications are on a bounce, but not proven to be anything more.
- If they should prove to be something more and the yield curve rises, the precious metals and commodities can continue upward.
- If they should prove to be transitory and yield curves rise, the gold sector would get a fundamental boost (as but one example, think about oil resuming its decline as measured in gold terms).
- If the yield curve fails and inflationary signals fail, it would be a positive backdrop for stocks.
Yield spreads have generally been on a barely visible rise for over a month now. We will gauge its progress and update the implications every step of the way.