Mae West said, “Too much of a good thing is never enough.” For the financial markets that’s just not true, however. The markets are prone to swing to excess and then to painfully retrace the extreme end of the swing. You can see it happening now with interest rates and the bond market.
I’m hearing some chatter that says bond traders and analysts are stepping aside from the bond rally. Or are planning to do so. Their argument is that the move has been too far, too fast. Specifically, I’ve heard talk of selling if the yield on the 10-year Treasury hits 4.00%. On Friday, the yield was 4.20%. So I’d be watching to see if anything like a bond rally pause or reversal materializes during the days ahead of the Federal Reserve meeting on December 13
The yield on the 10-year Treasury closed at 4.99% yesterday. Bond prices are up a bit today, Friday October 20, and as of 1 p.m. New York time, the yield on the 10-year had retreated 8 basis points to 4.91% I don’t think this changes the trend line–which is clearly pointing toward yields above 5%. I’m watching that level carefully for two reasons.
Yesterday, September 28, for a day, global stocks and bonds rallied after the Bank of England stepped in and said it was setting aside £65bn ($72 billion) to buy bonds over the next 13 working days. (It’s a limited-time offer that expires on October 14.) Today, the global selling has resumed. As of the close in New York time, the Standard & Poor’s 500 was down 2.11% on the day. The rally yesterday was, in my opinion, a knee-jerk reaction by investors and traders who saw the Bank of England’s move as evidence that the central bank Put lived. And that central banks would, of course, rescue the financial markets. According to this interpretation, the market was upset, and, as usual, central bankers soothed it with a bundle of cash. Which led markets to hope that other central banks, especially the Federal Reserve, would pivot away from a policy of higher interest rates in the face of the damage done to financial markets. Today’s resumption of selling is, I think, a recognition that yesterday’s rally was based on false assumptions.
Last week’s bond market plunge and yield increase priced in an earlier move on interest rates by the Federal Reserve. According to Bloomberg, markets now see a Federal Reserve interest rate hike by March 2023. At the beginning of February the bond market had priced in an initial interest rate increase in mid-2023.
Simple rules of supply and demand say that plans by the Biden administration for a $1.9 trillion package of coronavirus stimulus/relief and proposals to spend another $2 trillion on infrastructure should be driving up yields on government bonds (and driving down prices.) Investors want more reward–higher yields–in return for buying more Treasuries and taking on the risk that all this supply will push Treasury prices lower. But the bond market is hardly ever as simple as it looks and there are other trends at work that you ought to figure into your investment calculations.
Thursday action by Treasury Secretary Steve Mnuchin to terminate the Federal Reserve’s access to $195 billion in backup funding on December 31 will just increase the volatility in a bond market that was already experiencing a tug of war between expectations for faster growth in 2021 (and hence higher interest rates and lower bond prices) and worries about an economic slowdown in the coronavirus economy and Congressional inaction on any virus stimulus package (and hence lower interest rates and higher bond prices.) The tug of war will play out in the short holiday week which packs big funding activities by the Treasury into the first two days of the week. Monday and Tuesday will see the auction of nearly $200 billion in 2-year, 5-year, and 7-year Treasuries.
The rout in global bonds continued today. The yield on the 10-year U.S. Treasury climbed 7 basis points to 2.22%. That’s the highest level since January. Yields on the 10-year German Bund rose to 0.32% in the longest losing streak for these benchmark bonds since May. Yields on Italian and Portuguese debt climbed to the highest levels since July 2015 and June 2016, respectively. The worst damage continued to be suffered in emerging market bonds.
