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Risk assets continue to trade on the front foot as Janet Yellen hearing failed to spark the new US Treasuries sell-off. Consequently, no new US dollar buying has emerged. Optimism is limited as markets await Joe Biden's inauguration.
In normal circumstances it would be perceived as a formality and a non-vent, but this time it will be different. It will be important due to the threat of further riots and social unrest in the United States, which could taper the appetite for risk in the financial markets.
In the G-10 space, the pound sterling has recently been trading firm, and the GBP/USD pair approaches 1.37 once again at the time of writing. The EUR/USD exchange rate jumped to the 1.2150 area, but so far has remained closed by the 1.22 handle. Simultaneously, the potential to decline below the 1,20 mark is low in the current market environment, which is a mix of doubts concerning the COVID situation and hopes for a robust economic recovery as vaccinations proceed. Investors are so far unfazed by the political chaos in Italy. Prime Minister Conte survived the Senate's confidence vote, and now political risk should fade for now. Yield spreads of Italian and German benchmarks have largely remained stable, so no euro-positive flows should occur.
Risk appetite remains supported by the prospects of further fiscal stimulation in the US which will be combined with the continuation of an extremely accommodative policy from the Federal Reserve. We perceive another taper tantrum probability as low and expect only a modest and gradual rise of US yields. However, better growth prospects should trigger higher inflation and dent the US dollar attractiveness and spur the hunt for yield resulting in dollar outflows. In the longer term, rapidly rising debt levels combined with huge current account deficits bode ill for the dollar, which long-term downtrend has recently paused, yet should be perceived as unthreatened.
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See also:
Investors turn optimistic as the gathered events speed up (Daily analysis 19.01.2021)
Cooling of market sentiment helps the dollar (Daily analysis 18.01.2021)
FX interventions make a comeback (Daily analysis 15.01.2021)
The zloty underperforms as central bank pledges to intervene (Daily analysis 14.01.2021)
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