Temporary Yield Curve Inversion Sees Possible 50-Point Rate Hike

4 April 2022, 03:28

Market Focus

U.S. equities edged higher Friday to close a choppy first trading day of April as investors saw a classic recession signal in the bond market briefly flash red, reaffirming anticipation for more hawkish actions by the Fed. The S&P 500 rebounded near closing to rise 0.3%, and the Dow Jones bounced back 150 points after both benchmarks seesawed between gains and losses during intraday trading. The Nasdaq Composite climbed a mild 0.3% upward, to mark a third winning week for the tech-heavy index. Friday’s moves come after Wall Street capped its worst quarter since the start of 2020.

In addition to rate hikes, market participants will be closely watching the 2-year and 10-year U.S. Treasury yields, which have inverted recently. An inverted yield curve is generally an early indicator of an upcoming recession. Market participants will focus more on global central banks’ monetary policy decisions as the global economy heads into its late cycle. Better-than-projected unemployment rates coming from the U.S. have given the Fed more confidence for a 50 basis point interest rate hike as we head into the second quarter of the year.

Main Pairs Movement:

The Fed’s difficult job got harder this week. Its preferred inflation gauge set another fresh 40-year record high, while the ISM Manufacturing Prices Paid Index shot up 11.5 points to 87.1. Nonfarm Payrolls increased 431K in March with steep upward revisions that lifted the past two months’ gains. However, personal income is not quite keeping pace with price increases. It’s of little wonder then that the yield curve temporarily inverted, a sign the bond market is losing faith in a soft landing.

Rampant inflation is not specific to the US. In the Eurozone, March CPI inflation also quickened more than expected to 7.5% year-on-year driven by higher energy prices. Still, the overall rate of inflation should see a timely shift by the ECB to cut accommodative monetary policy despite a mixed growth outlook.

Greenback’s performance was mixed last week. The EURUSD pair closed the week 0.55% higher at 1.1040, while GBPUSD was down 0.53%. The Japanese Yen depreciated by 0.66% against the US dollar, while its Chinese peer got mild gains in value, around 0.05%.

As for commodities, both British and US crude oil fell sharply during the week, as the war between Russia and Ukraine coming to a standstill has made investors feel like peace talk may proceed and will conclude Russia’s reluctance. Gold also dropped last week, down by approximately 1.66%.

Technical Analysis:

GBPUSD (Daily Chart)

Cable failed to continue its three-day rally and has fallen through our previously estimated support level as demand for the Greenback rises. The Dollar Index recovered 0.52% over the course of Thursday’s trading and is continuing to rise on the last trading day of the week. Once again, escalating tensions between Ukraine and Russia have caused a rotation back into the more attractive greenback. Furthermore, the unemployment rate for March fell to 3.6%, providing much-needed confidence for a more aggressive rate hike by the Fed later on in the year.

On the technical side, Cable receded from the previous day’s upward momentum as demand for the Greenback returned. After reaching our previously estimated resistance level of 1.3163 on Thursday, Cable has resumed trading below the 1.31 price level. RSI for Cable sits at 41.05 as of writing. On the four hour chart, Cable is trading below its 50, 100, and 200-day SMAs.

Resistance:  1.3163

Support: 1.3131, 1.3057

EURUSD (4-Hour Chart)

The euro fell 0.82% against the dollar on Thursday and continues to trend downward on the last trading day of the week. Runaway inflation in the Eurozone, in addition to the ongoing war in Eastern Europe, has caused investors to favour the Dollar strongly over the Euro. The U.S. released better-than-forecasted unemployment rate figures for March, thus boosting Dollar demand. With a relatively strong economic base, the Fed would be more confident in more aggressive monetary tightening as the market heads into the second quarter.

On the technical side, after breaking above our previously estimated resistance level at 1.1127 on the 30th, EURUSD has resumed trading below that price level. RSI for EURUSD sits at 47.51 as of writing. On the four hour chart, EURUSD is trading below its 50-day SMA, but above its 100 and 200-day SMAs.

Resistance: 1.1127

Support: 1.0985, 1.0845

XAUUSD (4-Hour Chart)

Gold prices could not maintain their upward trajectory and have fallen amid a broad-based surge in dollar demand. With the U.S. releasing better than projected economic figures, market participants have interpreted this news as a base for a 50 basis point rate hike by the Fed later in the year. The most recent drop in gold prices, however, does not reflect easing tensions in Eastern Europe. In fact, tensions are still running high between the two countries as previous suggestions of de-escalation have been proven false by multiple Western intelligence agencies.

On the technical side, XAUUSD has retreated from our previously estimated resistance level of around $1944 per ounce price region. During the opening of the U.S. session, XAUUSD dropped to our previously estimated support level and defended that price level with a swift recovery. RSI for XAUUSD sits at 35.33, as of writing. On the four hour chart, XAUUSD is currently trading below its 50, 100, and 200-day SMAs.

Resistance: 1944

Support: 1918, 1886