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If QE Tapering Is Coming, Why Are Yields, the US Dollar Index Not Ripping Higher?


The action in the fixed income and currency markets is at best curious and at worst perplexing given the recent improvement in US data and the chatter emanating from Fed heads not named Bernanke or Yellen.

Starting about two months ago, I began thinking the euro was setting up as a very nice sell candidate as it rebounded after what looked like five waves lower. What has transpired in terms of the euro's trading action – especially versus the greenback – has been a relentless march to the upside (including a recapture of the previously broken uptrend line and the successful conquering of various potential resistance levels on the way up).

When the prevailing thoughts were that we would see "perma-tapering" – something that has been mentioned by some respected media types (especially when the data were more sluggish) – rates and the US dollar were understandably under pressure. However, with the better-than-expected employment data last Friday and several Fed heads making their relatively hawkish viewpoints known in the financial media before and after the release of the jobs numbers, we are still seeing rates remain under control and the US Dollar Index tumbling through short-term support levels. So, what gives?

My capital preservation instincts cause my thoughts to immediately run to "there must be something going on behind the scenes that the public doesn't know about." Whether it is toxic fiscal policy announcements soon to be announced or, God forbid, something more sinister in the works from abroad, the fear of the unknown leads naturally to speculation as to what could be going on to cause counterintuitive events. I am no exception to that – especially after living and working through the lead up to the crashes in 2001 and 2007/2008.

Conspiracy theories aside, could something more obvious – and already known – be the explanation for the weakness in yields and the greenback? Here are two possibilities: First, the answer could be that no matter how many hawks populate the FOMC, there is only one voice that matters – and right now that's Helicopter Ben, and soon it will be the even-more-dovish Janet Yellen. Until we start to hear Yellen (since Bernanke is almost ready to start writing books) sound off in a manner more pleasing to her hawkish board members, nothing else really matters, does it? This seems to me to be the most reasonable and non-conspiracy-conjuring answer to the mystery.

The second, more disturbing possibility worth a mention surrounds the looming implementation of the Affordable Care Act. I am not trying to stir up the crazies here, but what if the implementation of this is a partial if not comprehensive failure and the Federal budget is forcibly thrown further into the red as the country tries to address the many issues – both technological and foundational? Could the ramifications be so bad that our economy and government is simply overwhelmed by the powerful current of problems and unintended consequences that only massive printing of dollars is turned to by the folks in power? I truly hope this is not the case, and that the foundational ideas are sound and that the technology issues are finally fixed like we all know they can be. Nobody wishes ill upon their own country – or maybe they do, but I don't. As I mentioned earlier, when counterintuitive action occurs in the markets, it leaves one to speculate and imagine what could really be causing the strange trading – sometimes a good thing, and sometimes a good excuse to turn into a "doomsday prepper."

How do I cope? I turn to the charts. So, let's do that now…


The yield on the 10-year Treasury note has dipped, but still looks bullish.

The chart below shows the yield on the 10-Year Treasury Note (INDEXCBOE:TNX) maintaining a bullish technical posture for now despite the downside seen in the last three trading sessions. If the wave count on the chart is correct, the 10-year yield should proceed on up to at least 2.945% and more likely up to 3.078%. A close below 2.792% will dampen my bullishness for the short-term, though.

Click to enlarge


The DXY is short-term ugly / intermediate-term more bullish.

The next chart shows the all-important US Dollar Index (DXY) tumbling far worse than US rates have recently. This is obviously because of the relative strength in two of the key DXY components – the euro and the British pound. Each of those currencies sports uber-bullish charts and seem to be dwarfing any nascent strength percolating here in the US and in the greenback.

Support for the DXY comes in at 79.65 and is followed up by the very critical support at 79. As long as 79 holds up, the rate and greenback bulls have a leg on which they can stand and Yellen's hawkish colleagues may finally be getting their way. On the other hand, if that level fails to hold up, color me a doomsday prepper (only partially joking).

Click to enlarge

The yen is nearing line-in-the-sand support.

Another chart worth monitoring closely is that of the yen futures. The yen is hovering just above very important short-term support at the "abc" correction projection at 0.9661. My thought is that support there will hold up for now and that a wave "C" rally could ensue that will take the yen back up to the June highs above 1.0600. If that support fails, though, it will likely coincide with risk staying "on" for a while longer.

Click to enlarge


Overall, my thoughts are that if rates are to stand their ground, one possible place where that may occur is just below current levels – which in theory should mean the DXY will simultaneously hold its ground. Only time will tell, but unless some of the more dire scenarios I've put forth today are actually the reality, we should see tapering commence soon and rates and the DXY rising along with it.

Twitter: @seachangereport

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