The lessons of 1994 that cannot be ignored

The combination of price action, and major country capital flows data, suggest the June 6th FX weekly piece “Fighting the Ghosts of 1994” has become even more relevant for current FX proceedings.

The June piece (that pre-dated the Bernanke Fed tapering signal at the June FOMC meeting), made the point: “How different 2014 is to1994 for FX will be at least partly determined by the divergence between the US and other bond markets as the Fed shifts to a less accommodative stance. If other developed bond markets act like high beta versions of the US Treasury market as they did in 1994, it will inevitably constrain much of the positive USD impact. Perhaps more of a threat is that a failure to ease sufficiently elsewhere results in an unintended rise in real yields. This could easily occur in the EUR area, as disinflation continues….Until there is a clearer idea of how G10 bond markets respond relative to US Treasuries many participants may wish to take the USD
out of their trades, with the counterpart to EM shorts, including EUR longs.”

By the standards of 1994, the 2013 bond sell-off so far looks decidedly demure! In 1994, the front-end of government bond markets were selling off hard. The US 2 year yield increased 346bps that year, a mere 340bps more than we have seen in 2013! The same story applies across all of G10. The largest increase in 2yr G10 nominal rates this year has been Kiwi yield increase of 33bps, but this compares with a NZD 2yr yield increase of 412bps in 1994.

Read the full report: FX Daily


Deutsche Bank

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