Battered Bond Bears Give a Cautious Cheer as Yield Slump Pauses
(Bloomberg) -- Bond bears may want to refrain from breaking open the champagne just yet.
The seemingly relentless rally in Treasuries that caught many investors offside finally paused this week, with 10-year yields notching their first weekly advance since June. Yet even if yields have bottomed, ongoing uncertainties about the delta variant of the coronavirus, inflation and Federal Reserve policy mean it’s far from certain that they will continue to climb.
The spike in Covid infections around the globe helped fuel gains in Treasuries and other haven assets earlier in the week even as data showed signs of resilience in U.S. manufacturing, dragging the 10-year rate to a five-month low just under 1.126%. That came to a shuddering halt Wednesday after Fed Vice Chairman Richard Clarida gave fresh hope to those betting that tighter policy might come sooner rather than later. His comments spurred a rebound in yields that got a further boost from a better-than-expected jobs report on Friday.
“The strong payrolls release is certainly making more credible both guidance toward a taper announcement later this year and an eventual transition to rate hikes,” said Jonathan Cohn, a rate strategist at Credit Suisse Group AG. “This is clearly supportive of higher yields, particularly real yields, but the resilient bid for duration seen through the last few months, especially against a less than ideal virus backdrop, leaves us reticent to call a bottom.”
One consequence of the recent rally in Treasuries has been a shift in overall market positioning. Investors had been queuing up to bet against Treasuries, but that short now appears to have been reduced significantly in the face of ongoing market strength. And while that more neutral positioning shows that the bears are more cautious, it also means that a rally is less prone to feeding on itself as traders are forced to cover losing bets.
“The recent decline in U.S. Treasury yields will reverse somewhat, as some of the near-term factors pressuring yields lower ebb,” Pacific Investment Management Co.’s Tony Crescenzi wrote in a blog post Friday. “Yet we acknowledge the risks that yields could well fall further.”
Next week’s consumer-price inflation report and bond auctions will provide key tests for the market, as will ongoing developments around the coronavirus, but the major focus for most traders is likely to be the Fed conference at Jackson Hole later this month. Chair Jerome Powell is set to speak and could well use the opportunity to lay out in more detail the central bank’s thinking about policy tightening.
The 10-year yield ended Friday at 1.30%, up 7.5 basis points from a week earlier, although still well below even last month’s highs. Traders in the eurodollar futures market are currently pricing in the Fed’s first quarter-point hike by around March 2023, with another increase the following quarter.
More immediately, traders have been positioning around the prospect that comments at the Jackson Hole symposium will move markets, with notable activity in options on the 10-year Treasury that expire on the Friday of the Aug. 26-28 event. There has been particular interest in bets that protect against rising yields, as well as activity that protects against declines below 1.1%.
“We are in the process setting up a range for the rest of August,” said John Briggs, global head of desk strategy at Natwest Markets. “I think this would be the end of the push towards lower yields, but at the same time I am not convinced that we are going to start taking off towards higher yields.”
What to Watch
- Aug. 9: JOLTS job openings
- Aug. 10: NFIB small business optimism; nonfarm productivity; unit labor costs
- Aug. 11: MBA mortgage applications; consumer-price index; monthly budget statement
- Aug. 12: Producer-price index; initial jobless claims; Langer consumer comfort gauge
- Aug. 13: Import and export price indexes; University of Michigan sentiment
- Aug. 9: Atlanta Fed President Raphael Bostic; Richmond Fed President Thomas Barkin
- Aug. 10: Cleveland Fed President Loretta Mester
- Aug. 11: New York Fed Executive Vice President Lorie Logan; Bostic; and Kansas City Fed President Esther George
- Aug. 9: 13-, 26-week bills
- Aug. 10: 42-day cash management bills; 52-week bills; 3-year notes
- Aug. 11: 119-day CMBs, 10-year notes
- Aug. 12: 4-, 8-week bills; 30-year bonds
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