Bonds Are Selling Off Everywhere as Traders Rethink Fed Pathway

(Bloomberg) — Bonds are falling around the world as investors weigh the possibility of slower U.S. interest rate cuts, a trend that threatens to upend debt conditions everywhere.

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Treasuries extended sharp losses on Monday, with the 10-year yield rising back above 4.20% for the first time since July. The interest rate on equivalent German securities rose four basis points, reaching the highest level since early September. The rout spread to Asia, where yields on Australia’s benchmark debt rose by as much as 16 basis points.

At the heart of the selling lies a reassessment of US monetary policy expectations. Traders are trimming their bets on aggressive easing as the US economy remains strong and Federal Reserve officials this week sounded a cautious tone on the pace of future interest rate declines. Rising oil prices and the possibility of a larger fiscal deficit after the upcoming US presidential election will only exacerbate market concerns.

“With less than two weeks until the US election, concerns about the fiscal outlook and its potential upward pressure on inflation are becoming more acute,” said Robert Deschner, senior portfolio manager at Neuberger Berman in London.

US 10-year bond yields rose two basis points to 4.22%, in addition to a jump of more than 10 basis points on Monday. The move steepened a key part of the US yield curve that has inverted since late 2022, with the gap between three-month and 10-year yields reaching its narrowest level in almost two years.

“We’ll probably see 4.5% early next year” for 10-year U.S. bond yields, Ed Yardeni, founder of Yardeni Research, said in an interview with Bloomberg TV.

Traders have reduced the extent of the Fed’s interest rate cuts through September 2025 by more than 10 basis points since the end of last week, according to swap pricing, which implies the Fed’s target interest rate between 3.50%-3.75%.

Apollo Management is among those who see the central bank likely to keep interest rates unchanged at its next meeting, while T. Rowe Price expects US 10-year yields to rise to 5% next year on the risk of smaller interest rate cuts. With improved growth.

What Bloomberg strategists say…

“Treasuries may face difficulties in the coming months, with a strong upward bias in yields as the US economy remains resilient and supply concerns grow.”

Garfield Reynolds, Live Markets Strategist

Expectations are also being repriced in other markets. The swaps suggest the RBA will cut its benchmark interest rate by only about 50 basis points until the end of August next year, half of what it was priced in after its policy meeting in September. Likewise, traders have brought forward their expectations for the next Bank of Japan rate hike to June, compared to the later July event seen last month.

Demand for longer-term holdings of 10-year Japanese bonds, “which carry relatively high interest rate risk, is likely to be limited” in this environment, says Keisuke Tsuruta, chief fixed income strategist at Mitsubishi UFJ Morgan Stanley Securities. Finance. In Tokyo, he wrote in a research note.

Emerging market bonds also fell, with Indonesia’s five-year bond yield rising by seven basis points.

Not everyone expects the sell-off to gain momentum. The Federal Reserve and the Reserve Bank of New Zealand, among others, are in the midst of interest rate cutting cycles, which should generate a base supply to buy bonds.

“We may see a slight correction from here,” said Lucinda Harimza, vice president of fixed income sales at Mizuho Securities in Singapore. She said there was “a risk of a stronger rise in light of escalating tensions in the Middle East or Harris winning the elections.”

For now, though, the combination of US debt supply, election hedging, and markets driving the risk of a Republican “red sweep” at the polls could lead to greater than usual volatility in Treasuries. Treasury volatility rose to the highest level this year, based on the ICE BofA Move Index, which tracks expected volatility in U.S. yields based on options.

BlackRock Investment Institute is among the most underweight short-dated Treasuries.

“We do not believe the Fed will cut rates as sharply as markets expect,” strategists at the firm including Wei Li wrote in a note. An aging workforce, persistent budget deficits and the impact of structural shifts such as geopolitical fragmentation should “keep inflation and interest rates higher over the medium term,” they wrote.

–With assistance from Haslinda Amin, Anchali Woratchet, and Alice Gledhill.

(Price updates, additional investor voice in fourth paragraph).

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