Dollar, bond yields jolted higher by Fed risk

Tags: Bond, dollar, News
The U.S. dollar was holding hefty gains in Asia on Thursday as investors wrestled with the risk that U.S. interest rates could rise sooner and faster than previously thought, pressuring stock and bond prices.

Short-term U.S. bond yields jumped by the most in almost three years after Federal Reserve Chair Janet Yellen said the central bank might end its bond-buying program this fall, and could start to raise interest rates around six months later.

That combined with a slight rise in the projected path for rates by Fed members, led the market to bring forward the likely timing of the first hike in U.S. rates by a couple of months.

"The end result is a market that is left feeling less comfortable about the outlook for policy than before -- pricing in more risk of tightening sooner and faster -- despite the Fed's best efforts in stressing that their views about policy have not changed," said Michelle Girard, chief economist at RBS in Stamford, Connecticut.

The new sense of uncertainty unsettled Wall Street, where the Dow fell 0.7 percent and the S&P 500 0.61 percent.

The selling flowed through to Asia, where Japan's Nikkei slipped 0.7 percent while the Australian market lost 0.8 percent. MSCI's broadest index of Asia-Pacific shares outside Japan shed 1.1 percent to a one-month trough.

The Nikkei took a further blow when data showed foreign investors sold a record 1.09 trillion yen of Japanese stocks last week.

The futures market for the U.S. Fed funds rate shifted to pricing in around a 50-50 chance of the first hike in May to June next year. The timing had been July to August ahead of the Fed statement.

Yet many were not convinced the timetable had moved much at all. A Reuters poll of 17 primary dealers found 10 still expected the first hike to come in the second half of 2015, and four were still tipping 2016.

The whiplash was felt most in the short end of the Treasury market which is more sensitive to the course of the Fed funds rate. Yields on two-year notes shot up 8 basis points to 43 basis points, the sharpest single-day rise since mid 2011.

Yields on 10-year notes were at 2.76 percent, having risen 9 basis points on Wednesday. Since they act as the benchmark for bond yields across the globe, the shift will ripple through to higher borrowing costs for many countries.

The rise in U.S. yields in turn helped lift the dollar and sent the euro reeling back a full cent to $1.3826. Against a basket of major currencies, the dollar was holding at 80.004 after adding 0.8 percent on Wednesday.

The dollar was up at 102.40, having jumped a full yen overnight in a move which helped limit the fallout on Japanese stocks. A weaker yen tends to be seen as positive for Japanese exports and company profits.

The dollar's gains were gold's undoing, sending the metal down to $1,330.24 an ounce. Its 1.8 percent drop on Wednesday was the biggest one-day fall since January.

Neither has the prospect of rising rates in the United States been good for some emerging markets as it threatens to draw capital away, pressuring equities and currencies.

It also comes as China seems to be weakening its yuan as a way to support a slowing economy, which puts pressure on other nations in the region to lower their currencies to stay competitive on exports.

The yuan skidded to its lowest in a year on Thursday at 6.2135 per dollar, a long way from where it started the year at 6.0515 and a huge move for the normally tightly-controlled currency.

Last weekend the People's Bank of China (PBOC) doubled the daily trading band allowed for the yuan to 2 percent from the mid-point that it sets each day.

In oil markets, Brent futures edged up 21 cents to $106.06 per barrel on Thursday, while U.S. crude oil added 7 cents to $100.44.

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