(Bloomberg) — For more than a year, bond traders have been wracked by uncertainty about how high the Federal Reserve will push interest rates.
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But that is now giving way to a growing conviction that long-term Treasury yields have indeed peaked – and the unexpected sell-off that gives yields a bit of an extra lift seems to be good times to buy.
The shift may inject some stability into a bond market that has been constantly surprised by how resilient the US economy is as the Federal Reserve has raised interest rates by five percentage points since March 2022. The dynamic was underlined on Friday, when bonds fell after a report showed employers accelerating the pace of hiring. Unexpectedly in May.
At the same time, the slowdown in the pace of wage gains and the rise in the unemployment rate suggests that the central bank may finally steer the economy into a slowdown, albeit it hopes it will be relatively mild. This could effectively cap long-term bond yields even as volatility continues in the short term as traders try to play the last stretch of the Fed’s tightening campaign.
Scott Solomon, fixed income portfolio manager at T.
Focus now turns to the release of the next CPI reading on June 13, when the Fed begins its two-day policy meeting. The gauge is expected to show that the pace of inflation slowed to 4.1% in May from a year earlier, according to economists polled by Bloomberg, providing potential support for policymakers to delay any further rate hikes until July.
Expectations that the Federal Reserve would take such a pause helped send two-year Treasury yields lower ahead of Friday’s employment report, leaving them down slightly for the week around 4.5% despite a sharp rebound in the immediate aftermath of the labor market data. Both Federal Reserve Governor Philip Jefferson and Philadelphia Fed President Patrick Harker have shown support for postponing some final comments from officials ahead of the pre-meeting blackout.
By late Friday, derivatives showed a quarter-point rally this month or next was almost certain, but less than a one in two chance it would be at the meeting that ends June 14th. Cuts that were until last month were still expected during the final term of 2023.
Central bank officials’ new outlook on price direction, due for release at the upcoming FOMC meeting, should reinforce the view that a break in June will not mean it will, especially if inflation continues to slowly decline.
“If they really mean they’re coming back after June, they might have to signal a little bit higher, maybe another increase in the point chart,” said Alex Lee, head of US interest rate strategy at Credit Agricole, referring to the nickname. On the forecast summary.
Long-term bonds were less affected by speculation about the Fed’s next move, as investors were convinced it ultimately had little to go.
Moreover, yields have risen so sharply from their pandemic-era lows that they now provide a reasonable income. There is the possibility that fixed-income asset prices will gain if the economy slips into recession, which would prompt the Fed to reverse course.
This has helped curb long-term returns. When selling pressure erupted earlier due to stronger-than-expected economic numbers, buyers pounced on 5- and 10-year yields surging to their highest levels since banking turmoil in early March, at 3.99% and 3.86%, respectively. JPMorgan Chase & Co.’s latest survey of treasury clients showed that long positions were at their highest levels since last September.
Ten-year Treasury yields ended the week at around 3.69%, down about 10 basis points from the previous week despite Friday’s support. Five-year returns were around 3.84%.
Jack McIntyre, a portfolio manager at Brandywine Global, said he wasn’t budging on his position in the bond market based on the latest job market data. The company has a high level of long-term debt holdings that “would do well in a soft landing and recession.”
“You want things that are defensive and resultant,” he said.
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