Friday, June 13, 2008

Recession to Inflation: Transitions in Intermarket Themes

With the steady rise in U.S. interest rates since March (10-year Treasury rate; top chart), the U.S. dollar has found recent buying interest (U.S. dollar index; bottom chart).

Interestingly, while lower rates (higher Treasury prices) were associated with falling stocks during the first quarter of 2008 (flight to quality amidst credit fears), we're recently seeing stock market weakness in the face of rising rates and inflationary concerns. It's a nice example of transitions among market themes. This transition--from recessionary collapse to inflation, especially in recent Fed statements--is something that will affect how equities respond to economic statistics and intermarket relationships going forward.

Meanwhile, U.S. rates have a way to go before they're competitive with many rates around the world. Here are two-year government debt rates across a few countries:

Japan: 1.02%
U.S.: 3.05%
Germany: 4.65%
U.K.: 5.54%
Australia: 7.15%
Brazil: 14.82%

With such interest rate differentials and a reluctance to cut rates overseas in the face of rising commodity prices and consumer inflation, continued U.S. dollar strength will likely depend upon continued upward pressure in Treasury yields, which hardly favors interest-rate sensitive sectors of the U.S., including housing.

1 comment:

itrade4real said...

I've noticed the changes in intermarket themes mainly via my P+L! I'm long $CAD and close to getting a buy signal in the yen futures. It's possible I get stopped out of $CAD, but my system assumes the major trend will continue at some point (weaker dollar). It'll be interesting to see how things shake out, but I cannot be a buyer of the recent "mini breakout" in the $USD.