Epic Bond Rally Hurtles Toward Crossroad With Investors Distracted

(Bloomberg) -- The fourth quarter will decide if this is a stellar year for Treasuries or a fall from grace.

The Bloomberg Barclays U.S. Treasury index has returned almost 8% in 2019, putting it on pace to far outstrip the gains of the past four years. And unless the global growth outlook brightens markedly between now and December, Treasury bulls are looking at rivaling the performance of 2011, when the annual increase was close to 10%.

But a lot can happen in a quarter, particularly given all the competing forces in the market right now. Among things vying for investors’ attention are the possible impeachment proceedings against the U.S. president and fears of a further rupture in the financial system’s plumbing. Treasury bulls face the big risks of credible progress on the U.S.-China trade front, or a resolution to avert a messy Brexit. This month’s swings show the potential volatility: The 10-year yield has veered from a three-year low of 1.43% to as high as 1.9%, before settling at about 1.7% Friday.

“We probably retain most of the gains” in the Treasury market through year-end, said Subadra Rajappa, Societe Generale’s head of U.S. rates strategy. “I don’t see a clear path for us getting back to 2% in 10s given the wall of uncertainty we need to get through.”

The week ahead brings a heavy slate of Federal Reserve speakers, including Vice Chairman Richard Clarida, who’s expressed openness to one more rate cut this year. But he’s also stressed the Fed’s data-dependent stance, and that mantra over recent weeks has whittled away at the market’s more extreme positioning for further rate cuts.

TD Securities strategists this week attested to the market’s conflicting drivers -- including economic data -- by re-entering a long position in 10-year Treasuries a couple of weeks after quitting it. They’re treading particularly carefully around next week’s ISM services and manufacturing data, as well as employment figures.

For his part, PGIM Fixed Income’s Michael Collins suspects hiring reflected in the ISM surveys might show cracks in the labor market, which is about as tight as it’s been in 50 years. These surveys are considered more forward-looking than Friday’s payrolls data, which are expected to show a gain of 145,000 jobs in September, up from 130,000 in August.

“There are some early signs that maybe the strength we’ve had in the labor market is ebbing,” said the portfolio manager.

Collins has maintained a tactical stance on Treasuries this year, lightening up his bullish positioning in the past few months’ momentous rallies, and adding again when the 10-year peaked at 1.90% this month. He remains a fan of the long end of the curve, which has returned about 20% this year.

For the fourth quarter he doesn’t see any further breakout moves in yields, viewing the most likely path as slightly downhill from here. But he’s parsing the economic numbers, at home and abroad, for cues.

“We’re absolutely data-dependent, both the Fed and the rates markets,” he said.

What to Watch

The highlights next week include September jobs data and a parade of Fed officials, capped by remarks from Chairman Jerome Powell

• Here’s the economic calendar:
  • Sept. 30: MNI Chicago PMI; Dallas Fed manufacturing
  • Oct. 1: Markit manufacturing PMI; ISM manufacturing; construction spending; Wards vehicle sales
  • Oct. 2: MBA mortgage applications; ADP employment
  • Oct. 3: Challenger job cuts; jobless claims; Bloomberg consumer comfort; Markit services PMI; factory orders; ISM non-manufacturing; durable/capital goods
  • Oct. 4: Payrolls data; trade balance
• Here’s the schedule for Fedspeak:
  • Sept. 30: ECB’s Philip Lane in Los Angeles
  • Oct. 1: Chicago Fed’s Charles Evans in Frankfurt; Clarida; Governor Michelle Bowman
  • Oct. 2: Richmond Fed’s Thomas Barkin; Philadelphia Fed’s Patrick Harker; New York Fed’s John Williams
  • Oct. 3: Evans in Madrid; Vice Chairman for Supervision Randal Quarles in Brussels; Cleveland Fed’s Loretta Mester; Dallas Fed’s Robert Kaplan; Clarida again
  • Oct. 4: Boston Fed’s Eric Rosengren; Atlanta Fed’s Raphael Bostic; Powell opening remarks at “Fed Listens” event, at which Quarles and Governor Lael Brainard also appear
• The auction lineup:
  • Sept. 30: $45 billion 3-month bills; $42 billion 6-month bills
  • Oct. 3: 4-, 8-week bills

--With assistance from Sophie Caronello and Tom Lagerman.

To contact the reporter on this story: Emily Barrett in New York at ebarrett25@bloomberg.net

To contact the editors responsible for this story: Benjamin Purvis at bpurvis@bloomberg.net, Mark Tannenbaum, Dave Liedtka

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