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“The risk-reward in betting on Fed action in the July – September time frame is the most attractive in three months. Global credit and economic risks shot the March and June rate hikes right between the eyes, took the steering wheel out of Janet’s hands. This will position the Fed to start signaling for a July hike, sometime in the next 45 days. That would be a dollar positive; gold / commodities / EM negative. She’ll likely try and get back in the driver’s seat. In recent years, the rebound in Q2 vs Q1 GDP has been meaningful, north of positive 1%.”

The Bear Traps Report; May 2, 2016

We’re seeing a hint of inflation coupled with Fed governors on the speaking tour keeping a summer rate hike in play.  In just eight trading days, the U.S. 2 Year Treasury bond yield has surged 15bps to +0.83%, a substantial move for a short term government bond.  The German 2 year yield is all the way down to -0.51% (see below).

As we stressed to subscribers in our May 2nd Bear Traps report, we don’t think they will hike in June, July or September, but they will give it a try.  Once again, the beast inside the market will stop them, as it did in September of 2015 and March 2016.

As oil has nearly doubled since February, gas prices just came in with largest surge since August 2012.  The yield spread between U.S. 2 year Treasuries and German 2 year bunds is near record levels (see below).  You get 1.35% more for lending to Uncle Sam, this is putting a bid into the US Dollar.

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Headline industrial production advanced 0.7% in April, exceeding the consensus forecast of a 0.3% gain.

After the Fed shot the March rate hike right between the eyes, the U.S. dollar plunged during the 60 day period between early March and May.

The Winner?

In April, U.S. overall industrial output surged (see above), there was  greater output of consumer goods, particularly motor vehicles and parts.

 

CPI Pop

Stripping out fuel and food, the gain in so-called core consumer prices was propelled by services, with costs for rents, medical care, auto insurance and airline fares all increasing. Prices for goods — such as household furnishings, which fell the most since in six years — acted as a check on the CPI’s advance. Federal Reserve policy makers will likely want to see whether the higher prices stick as they consider the appropriate time to raise interest rates again. – Bloomberg noted.

• Rose 0.4 percent (forecast was 0.3 percent), most since February 2013

CPI Surge

• Increase driven by higher prices for gasoline, rents and medical care
• Core CPI, which excludes food and fuel, advanced 0.2 percent after 0.1 percent gain
• CPI increased 1.1 percent year over year; core CPI up 2.1 percent

Bloomberg data

Bottom Line

Remember, the Fed doesn’t have to hike rates.  Last summer, they signaled for a September rate hike, the U.S. Dollar surged and global credit risk took the steering wheel out of Janet Yellen’s hands.

On August 22, 2015 We Tweeted @convertbond:

There are three key trades around this latest dollar surge….

Pick up our latest Bear Traps Report here.