The rare negative trifecta currently weighing on yields, stocks and the US dollar is underlined by a common denominator of disinflationary expectations coupled with fears of a double dip recession. This helps explains the spread between US & German 10 year yields (US minus GE) falling to its lowest level of the year at 34 bps (0.35%) last week.

USD is at risk of prolonged retreat as the focus remains on US data, with EUR, GBP benefiting from the recent stabilization in European data.

USD is at risk of prolonged retreat as the focus remains on US data, with EUR, GBP benefiting from the recent stabilization in European data. USD selling could extend in the short-term as stocks reach for a much-needed rebound during a period of relative data vacuum.

The rare negative trifecta currently weighing on yields, stocks and the US dollar is underlined by a common denominator of disinflationary expectations coupled with fears of a double dip recession. This helps explains the spread between US & German 10 year yields (US minus GE) falling to its lowest level of the year at 34 bps (0.35%) last week.

Falling bond yields have usually prevailed during a period of falling equities, a relationship that is generally explained by bond prices benefiting from shaky stock markets. Such an environment led to a rising USD as the currency benefited from unwinding of risk appetite into USD, JPY and CHF.

Over the past 2 weeks however, the primary source of falling equities has been negative US data rather than bad news from the Eurozone. The onslaught of disappointing US figures, ranging from new home sales to net job losses, accelerated the decline in US yields amid eroding prospects of any type of tightening from the Fed this year.

Consequently, USD could only head lower, especially amid the 20-point plunge in the prices paid index of the manufacturing ISM raising disinflationary worries.

Looking ahead, a continuation of USD-downside is likely as long as either of these two scenarios occur; i) US worries become principal force weighing on equities & yields, displacing Eurozone sovereign debt and liquidity concerns; (ii) Lacklustre or stabilizing dynamics in global economy. But beware of EUR-positive complacency above $1.28 without any marked improvement on the Eurozone front. And with growing questions being asked about the slowing pace of growth in Chinese business activity indices, the repercussions on commodities will likely support USD.

Today’s release of the June services ISM (14:00 GMT) is expected to show a retreat to 55 from 55.4, with special scrutiny on the subcomponents (new orders, employment and prices paid).

With Dow futures rallying +98 pts at 9,694, EURUSD may attempt a retest of the $1.2660 target–just missed on Friday, while similar (relative) gains seen in CAD and AUD nearing 1.0530 and 0.8570. GBPUSD upside seen capped at $1.5220, with EURGBP recovery seen limited at 0.8330.

Ashraf Laidi

CMC Markets Chief Market Strategist