The drop in US Treasury yields on Wednesday has fixed-income investors and the broader financial markets scratching their heads. Earlier in the session, the 10-year Treasury note TMUBMUSD02Y, 0.220 percent, fell to its lowest level since February, hitting an intraday bottom of 1.285 percent on Wednesday morning, according to FactSet data.
The drop in the benchmark debt yield, which is used to price everything from mortgages to corporate debt, has investors perplexed because it comes at a time when concerns about rising inflation are high. Continuously growing prices are harmful for long-term debt because they erode the Treasury’s fixed value. Long-dated bonds should therefore be sold rather than bought, and yields should rise in lockstep. By this time in the recovery from the COVID-19 pandemic, most analysts expected 10-year Treasury yields to be around 2%.
Data from FactSet
That hasn’t happened, prompting some on Wall Street to speculate on what Treasury bond movements, such as a flattening of the yield curve (the gap between short-dated notes and longer-dated bonds), signify for the economy. Look into: What can we expect if ‘peak everything’ has already occurred and markets are feeling the pull of gravity once more? The exchange of suffering On Wall Street, bets that rates will rise have been losing bets, and the unwinding of these positions has led to some of the decrease in long-dated yields. Most traders expect 10-year yields to hover around 2% in the short term, which is a reasonable bet given that several Federal Reserve policymakers have stated that monthly asset purchases, which include $80 billion in Treasurys, will eventually be reduced. Analysts say that periodic spikes in yields have triggered a lot of unwinds of short Treasury bets, amplifying recent swings. In a Wednesday note, Greg Faranello, head of U.S. rates at AmeriVet Securities, wrote, “And right now with rates, the pain trade is a continued slide lower and flatter.” The economy is in decline. A bleak outlook for a quick economic recovery, emphasized by an uneven labor market revival, may be adding to typical Treasury refuge purchasing. Businesses in the United States are trying to replace millions of vacant positions. Although the United States added 850,000 new jobs in June, it would take more than a year to restore employment to pre-pandemic levels at that rate, a much slower recovery than experts had predicted months ago. On Wednesday, the number of job vacancies established a new high for the third month in a row, with a total of 9.21 million openings in May. To be sure, many people expect the job market to stabilize when fiscal stimulus programs to support unemployed Americans expire in the months ahead, forcing a more complete return to work. In a Wednesday research note, Mizuho economist Steven Ricchiuto said that there are some signals in layoffs and resignations that suggest this is merely a temporary difficulty for businesses looking to fill positions. “Layoffs have dropped to a new all-time low, and hiring and resignation rates have also dropped, bringing them closer to pre-pandemic levels,” the Mizuho economist noted. ‘This is troubling because it shows recent net payroll growth are unsustainable,’ he concluded. Overall, these trends provide credence to the Fed hawks’ claim that the structural rate of unemployment has risen. However, the policy changes that are causing these movements will be largely reversed in the next months, so it is, at the very least, premature to infer that the labor market has structurally transformed in our opinion.’ Treasury’s desire Demand for US government debt has been strong, owing to the fact that investments outside the US provide rates of 0% or less. The German bond yield, TMBMKDE-30Y, 0.185 percent, has dropped to its lowest point since March. Investors claim that the demand for European debt has spilled over to the United States. In a report published by Reuters, Mizuho analysts stated, “The swings seemed to be more of a result of trades being stopped out than than anything more fundamental.” “There is still a lot of money to be put to work, and the likelihood of momentum funds closing shorts ahead…could help to keep rates strong in the immediate term,” Mizuho said. delta, delta, delta, delta Concerns about the fast-moving delta version of the coronavirus that causes COVID-19 have also prompted some Treasury purchases. According to new statistics from the Centers for Disease Control and Prevention, the delta variety of SARS-CoV-2 is currently the most prevalent in the United States. Concerns have been raised that the more transmissible version of the coronavirus may cause more infections among the unvaccinated, and that even those who have been vaccinated may have less protection against the delta variant than against other variants of concern. A scarcity of supplies A scarcity of Treasury bonds could also be a problem, which seems strange considering the federal government’s massive fiscal deficits in its efforts to protect the economy from the COVID-induced downturn. However, the Treasury General Account, or TGA, which is controlled by the New York Fed and used by the US government to conduct most of its day-to-day operations, is now being gradually depleted after being boosted to assist alleviate the pandemic’s economic misery. According to John Luke Tyner, fixed-income analyst at Aptus Capital Advisors, which manages $3 billion, the TGA reduction has had the impact of lowering the supply of bonds, which is one important cause in recent yield swings. Tyner explained, “We’ve just had less issuance because the government can rely on TGA to cover expenses.” The Federal Reserve The Federal Reserve’s statement and Chairman Powell’s press conference following the June 15-16 meeting underscored the peculiar situation that fixed-income investors are in. The Federal Open Market Committee, which sets policy interest rates, discussed tapering its $120 billion monthly purchases of Treasurys and mortgage-backed bonds, as well as the possibility of hiking policy interest rates, which are now set at a range of 0% to 0.25 percent. Yields should rise if the Fed adopts a more hawkish stance, implying that the institution will be more willing to eliminate monetary support as the economy rebounds. When the minutes of the Fed’s June meeting are released Wednesday afternoon, investors will be looking for signals about future policy. Is it 2% or bust? Despite the current yield collapse, a number of analysts continue to believe that the 10-year Treasury will approach 2% by the end of 2021, which would signal a stunning rise in the final half of the year. In a recent research study, Lauren Goodwin, economist and portfolio strategist at New York Life Investments, predicts that the 10-year U.S. Treasury yield will end the year at 2.0 percent. She argues that the slow pace of job recovery is just temporary, and that rising debt and other variables will not lead to a long-term shift in inflation. “Based on these structural considerations, I believe the underlying inflation trend will only somewhat firm as the recovery continues… For the time being, any prediction that they would be inflationary over the next 2-3 years of recovery is speculative,” she added. According to Aptus Capital’s Tyner, if the 10-year yield falls below 1.20 percent in its drop, it could imply greater structural issues in the economy, as measured by fixed-income investors./n
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