(Oct 7): Key US Treasury yields are back at 4%, a level last seen in August, after a blowout jobs report undercut chances for another big interest-rate reduction from the Federal Reserve.
Bonds dropped on Monday, extending a plunge from late last week following surprisingly robust September payrolls data. The 10-year yield rose as much as six basis points (bps) to 4.03%, while the two-year yield was jumped as much as up 10bps to 4.02%. The underperformance in shorter-dated Treasuries saw a key part of the yield curve briefly invert once again.
The moves reflect swirling doubts over the Fed’s next moves. Money markets no longer see another half-point cut this year, while a quarter-point reduction in November that was once seen as certain is now priced at about an 80% probability. For the first time since Aug 1, there are fewer than 50bps of cuts implied through the end of the year.
“We’ve expected higher yields but anticipated a somewhat gradual adjustment,” Goldman Sachs Group Inc strategists including George Cole wrote in a note. “The extent of strength in the September jobs report may have accelerated that process, with renewed debate on the extent of policy restriction, and, in turn, the likely depth of Fed cuts.”
Monday’s open interest data, which tracks positioning in the futures market, fell sharply across multiple contracts linked to the Secured Overnight Financing Rate, signalling capitulation of long positions. Meanwhile in the options market, there were a bunch of new hawkish hedges targeting just one more quarter-point rate cut for this year.
Economists at Citigroup in a report on Monday said they expect the Fed to cut interest rates by a quarter point in November, joining other Wall Street banks in abandoning forecasts for a half-point cut in the wake of strong September employment data released last Friday.
Shorter-dated Treasury yields, which are more closely linked to the outlook for Fed monetary policy, rose faster than longer maturities on Monday, flipping the curve back out of its normal shape.
Two-year yields briefly traded above 10-year rates for the first time since Sept 18, reversing a trend towards normalisation that had been gaining momentum over recent weeks. Historically, bond yield curves slope upwards with longer notes paying higher yields, a norm that was disrupted for almost two years as the Fed hiked rates aggressively.
European bonds followed US Treasuries lower. The German 10-year yield rose 4bps to 2.25%, the highest in over a month, while its UK equivalent rose 6bps to 4.19%.
The selloff following last Friday’s jobs data is just the latest twist in a year that’s forced investors to recalibrate their expectations for the economy and Fed policy numerous times. US services activity also caught traders off guard last week, exceeding all forecasts, and casting further doubt on theories that the economy was deteriorating more rapidly than feared.
Traders are now looking ahead to a series of speeches from Fed policymakers for further clues on the path for rates. Minneapolis Fed president Neel Kashkari, as well as his Atlanta and St Louis counterparts, Raphael Bostic and Alberto Musalem, along with Fed Board member Michelle Bowman speak at different events on Monday.
The market is also awaiting US inflation data later this week. The consumer price index is expected to rise 0.1% in September, its smallest gain in three months. Fed chair Jerome Powell has said projections issued by officials, alongside their September rate decision, point towards quarter-point rate cuts at the final two meetings of the year.
“It doesn’t need a recession to get inflation to tolerable levels, so the Fed is easing policy without waiting for genuine economic weakness,” said Dario Perkins, managing director at TS Lombard. “By now, everyone should have realized the Fed is cutting rates pre-emptively.”
“There is no longer a path to a 50-bp interest rate cut at the November Fed meeting. The bond market is still adjusting to the new pricing reality,” say Bloomberg strategists.
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