The significant development this week has been the recovery of equities after last week’s neck-breaking drop, while yields have continued to rise. The dollar has taken is cues from the risk-on impulse from the equity market and the sales of US bonds more than the resulting higher yields.

Asia followed US equities higher. The MSCI Asia Pacific rose 1.37%, though several markets were closed for the Lunar New Year. With today’s gains, it has retraced 38.2% of the drop that began in late January. Unlike yesterday, Japanese stocks held on to early gains and snapped a three-day losing streak. The continuing rise in the Japanese yen runs contrary to the rise in US yields and the rise in equities. Many appear to be switching from yen-funding to dollar-funding, which in turn runs contrary to expectations that higher US interest rates and the Treasury’s issuance a large number of T-bills, now that the debt ceiling has been lifted, increases the cost of that dollar funding.  

European shares are also advancing. It would be the second gain in a row and the third this week. However, the recovery seems muted. The Dow Jones Stoxx 600 peaked earlier (January 23) than the MSCI Asia Pacific (January 29), but the retracement is closer to a quarter than the more than a third. However, some national bourses have outperformed. Italy, for example, has nearly met the 38.2% retracement objective and remains the best performing G7 equity market this year (+3.8%).  

The MSCI Emerging Market Index has recovered best. Today’s 1.5% gain today lifts the weekly advance to over 5%. It is closing in on a 50% retracement of recent loss. This is consistent with at least one broad theme. The recovery from the last week’s equity market drop continues and some of the pre-drop favorites remain favorites.  

Last week, the consensus view was the stocks were hit by an interest rate shock. This week, equities have traded higher, while yields continue to rise. The US two-year yield is up two basis points today, making it 11 on the week, and the US 10-year yield is also up two basis points today, and seven on the week. European yields are also mostly higher. The 10-year Bund yield is approaching the 80 bp high seen earlier this month, which was the highest since August 2015. On the other hand, peripheral bonds are in demand. Spain, Portugal, and Greece’s benchmark yields are lower today.