Bond traders in limbo on track to yields with declining volatility
T-bill volatility expectations, by at least one measure, are about as low as they have been in months, which the jury is still out on the next step for returns on the world’s largest bond market.
U.S. government debt rebounds slightly this quarter, after a rout in the first three months of the year resulted in the worst losses since 1980. Yields are now stuck in a range, with traders still bewildered by some of the key questions hanging over the economy: whether the rebound from the pandemic will prove to be lasting and whether the rise in inflationary pressures will be temporary, such as the supports the Federal Reserve.
Subadra Rajappa of Societe Generale and Gregory Faranello of AmeriVet Securities say the next chapter to solve this puzzle may not arrive until early June with the release of monthly jobs data. The new take is particularly important given the Fed’s focus on the job market and after the previous report much lower than expected.
This leaves traders in limbo. The ICE BofA MOVE index, which tracks implicit fluctuations in Treasury bill prices over the next month, is around its lowest since February. Last week’s 10-year rate range of just under 9 basis points was the narrowest since January. This month, the rate hit as low as 1.46% on unexpectedly weak labor data, and peaked at 1.7% following a consumer price.
“This type of range trading will last until we have some level of confidence in the path of the economy,” said Rajappa, head of US rate strategy at Soc.Gen. “When it comes to inflation, most customers already expect high inflation impressions to persist for the rest of the year.”
This week, Weak demand at an inflation-protected 10-year Treasury bill auction suggested confidence in the Fed’s rhetoric that the acceleration in consumer prices is unlikely to end. maintain.
But labor data will be critical going forward, as the central bank has indicated it is focusing on testing the outer limits of full employment, calling it a broad and inclusive target, while allowing inflation to exceed its 2% target. It will therefore be essential for traders to assess the progress made in recovering the jobs lost due to the pandemic.
Traders are betting the economy will be strong enough for the Fed to start raising borrowing costs in early 2023. Policy makers, meanwhile, project rates will still be close to zero at least until the end of the year. end of this year.
The Fed has said the process of removing accommodations will begin with cutting its bond buying program. The prospect of such a pullback triggered a temporary rate hike after April on Wednesday The minutes of the policy meetings showed that some officials were prepared to discuss the phase-out at “next meetings”.
In the coming week, Gov. Lael Brainard and Atlanta Fed Chairman Raphael Bostic are scheduled to speak, after having said previously that the economy still needs Support.
Ultimately, Rajappa and Faranello both see the end of the year with 10-year yields above current levels of around 1.6%. Rajappa forecasts 2% at the end of the year. Faranello sees a bit more leeway, but expects buyers to limit the climb.
The pressure for higher global yields can come from Europe. Improving vaccine deployment and betting on an economic return raised German 10-year rates to the point that some investors warn of a breakout above zero for the first time in over two years.
The coming week brings some important economic data. A consumer price measure known as the Personal Consumer Expenditure Price Index, which the Fed is officially targeting, is expected to jump 3.5% in April, the highest in more than a decade. And the measure of inflation expectations based on a University of Michigan survey over the next 5-10 years is on the radar after a preliminary reading reached its highest level since 2011.
“Whether these inflationary pressures are transient or not, nobody really knows,” Faranello said. “But the Fed wants to get people back to work, and that’s a big challenge given the bottlenecks between job postings and people not coming back for a myriad of different reasons. The market therefore needs more clarity on the employment situation. “
What to watch
The economic calendar
- May 24: Chicago Fed National Activity Index
- May 25: FHFA housing price index; S&P CoreLogic house prices; sales of new homes; Conference Board Consumer Confidence; Richmond Fed Manufacturing Index
- May 26: MBA mortgage applications
- May 27: orders for durable goods / capital goods; GDP; applications for unemployment benefits; Consumer comfort Langer; pending home sales; Kansas City Fed Manufacturing Activity
- May 28: advance of the goods trade balance; wholesale / retail inventories; personal income / expenses; PCE deflator; MNI Chicago PMI; University of Michigan sentiment
The Fed’s schedule:
- May 24: Fed Governor Lael Brainard; Loretta Mester of Cleveland Fed; Raphael Bostic of the Atlanta Fed; Kansas City Fed Esther George
- May 25: Charles Evans of the Chicago Fed; Thomas Barkin of the Richmond Fed; Vice-president of supervision Randal Quarles
- May 26: Quarles in two appearances
The auction calendar:
- May 24: invoices for 13, 26 weeks
- May 25: 42-day cash management invoices; 2 year notes
- May 26: 2-year variable rate notes; 5 Year Notes
- May 27: invoices from 4 to 8 weeks; 7 Year Notes