The Federal Reserve has finally lowered interest rates. However, in the past few trading days, a key indicator measuring borrowing costs has been on the rise
Since the Federal Reserve announced a 50 basis point interest rate cut last Wednesday, the yield of long-term US treasury bond has been rising all the way - the yield of benchmark 10-year US treasury bond closed at about 3.73% last Friday, higher than 3.64% the day before the Federal Reserve cut interest rates.
The yield of 10-year US treasury bond bonds is known as the "anchor of global asset pricing". Its ascent reminds people that the Federal Reserve cannot completely control the borrowing costs within the United States at will. Although the Federal Reserve manages the short-term interest rates for overnight interbank lending, these overnight borrowing costs are transferred to credit card debt and other types of floating rate loans. However, the interest rate of more debt forms is mainly affected by the fluctuation of the yield of treasury bond bonds.
And the changes in this part will depend on investors' expectations for the future direction of the Federal Reserve's short-term interest rates, rather than the current level of interest rates
At present, the yield on 10-year US Treasury bonds has indeed dropped by about 100 basis points compared to earlier this year, when the prospect of the Federal Reserve cutting interest rates seemed even more uncertain. However, looking ahead, once the US economy remains stable, there is no guarantee that US bond yields will continue to decline, which could leave potential homebuyers and other US borrowers hoping for a greater drop in interest rates feeling frustrated.
John Madziyire, head of the treasury bond department of Pioneer Group, said that his team was currently betting that the yield of US bonds might rise a little more, and believed that the current market forecast for the rate cut still exceeded most Fed officials' own forecasts.
If the Federal Reserve fails to cut interest rates as aggressively as the market expects, then the 10-year Treasury yield will actually rise, "he pointed out.
Why haven't long-term bond yields fallen but risen after interest rate cuts?
Logically speaking, the performance of yields is still related to the difference in market expectations and the stance taken by the Federal Reserve. According to the Chicago Mercantile Exchange's Federal Reserve Watch tool, interest rate futures market traders believe that the Fed's benchmark interest rate will drop from nearly 5% now to slightly below 3% by the end of next year. The dot matrix of Federal Reserve officials only predicts that the benchmark interest rate at the end of next year will be between 3.25% and 3.5%.
In terms of long-term interest rate forecasts, the median estimate of the Federal Reserve has even risen from 2.8% in the June grid to 2.9%.
It can be said that the yield increase after the Federal Reserve cut interest rates last week was particularly noteworthy, as the market has been debating whether the Fed should initiate its interest rate cut by lowering the federal funds benchmark rate by the traditional 25 basis points or the more aggressive 50 basis points. Those who advocate for a larger interest rate cut are generally more concerned about the economic outlook. They believe that the Federal Reserve should take bolder measures to prevent further weakness in the labor market.
In fact, some investors believe that the Fed's 50 basis points as the starting step for this round of interest rate cuts may even help push up long-term bond yields in the long run - because the Fed has chosen a larger rate cut from the beginning, indicating its willingness to fight to keep the economy away from recession, which is almost certain to lead to a greater decline in long-term bond yields.
In addition to the expectation of interest rate trend, the performance of 10-year US bond yield also depends to some extent on the term premium - that is, the amount of additional compensation required by investors to hold long-term treasury bond rather than short-term treasury bond.
Although term premiums have shown a downward trend in recent decades, many investors believe that once short-term interest rates stabilize, the yield on 10-year US Treasury bonds should be about 100 basis points higher than short-term rates. Part of the reason behind this is that investors expect that the US government will issue a large number of treasury bond bonds in the next few years to fund the increase of the federal budget deficit. Some people also mentioned the risk of inflation rising again.
Jeff Given, Senior Portfolio Manager at Manulife Investment Management, said, "Inflation has subsided but remains above the Fed's 2% target, so I believe investors holding long end bonds will want compensation for this
Of course, some investors who hold a pessimistic attitude towards the economy are still betting that long-term bond yields may further decline.
Jamie Patton, Co Head of Global Interest Rates at TCW, stated that her team believes that due to the lingering impact of the Fed's previous rate hikes, the economy may fall into recession, and the 10-year Treasury yield may fall below 3% in the next six months.
She said, "The Fed's interest rate cuts this month cannot affect the current economic situation - this will help the economy in the future, but in the next four to six months, the economy will still feel the lag effect of tightening policies