In the past two months, the US bond market has experienced ups and downs - in early October, the market began a wave of selling US bonds, which was rare in the history of the bond market. The yield on the 10-year US bond, the anchor of global asset pricing, broke through the 5% mark on October 20th, marking the first time in 16 years and attracting global attention.
Subsequently, as traders increased their confidence that the Federal Reserve had completed rate hikes, the 10-year US Treasury yield fell by 60 basis points in November, completely moving away from the 5% mark hit in October. At the same time, the US Treasury market also achieved its best monthly performance in nearly 40 years in November. The global bond and stock markets have also surged, with a total market value increasing by over $11 trillion in November, second only to $12.5 trillion in November 2020.
The current market is focused on the Federal Reserve's last interest rate meeting of the year in December, and most Wall Street strategists expect the Fed to maintain interest rates unchanged on December 13th. The Fed's most aggressive rate hike cycle in decades has ended, and the downward trend in US bond yields will continue.
"Pigeon Sound" Emerges US Bond Yield
The downward trend may continue
Bloomberg data shows that the 10-year US Treasury yield experienced a relative high since 2007 in October and then fell sharply in November. Global risk assets also seem to have breathed a sigh of relief - the US S&P 500 index closed up 8.9% in November, the second best performing month since 1980, second only to the rebound driven by the pandemic in 2020.
Although Federal Reserve Chairman Powell once again poured cold water on market optimism during his meeting on December 1st local time, stating that the Fed will act cautiously and that it is too early to judge when policy will be relaxed, the market seems to be indifferent. At present, the market is generally betting that the Federal Reserve has ended interest rate hikes and will start cutting rates in mid-2024, and US bond yields may continue to decline.
Regarding the decline in US bond yields this round, Wu Zhaoyin, Macro Strategy Director of AVIC Trust, also believes that the main reason is that the recent inflation rate in the United States has been lower than expected, and the market expects the Federal Reserve to no longer raise interest rates and cut them earlier. The fixed income research of Huatai Securities shows that the factors driving the decline of US bond interest rates in recent times include: partially exceeding expectations in fundamental data, weakening employment data, cooling inflation, lower than expected US bond issuance scale, and short positions being closed.
According to data released by the US Department of Labor in November, the Consumer Price Index (CPI) in the US increased by 3.2% year-on-year in October, slightly lower than market expectations of 3.3%, compared to the previous value of 3.7%; The core CPI increased by 4.0% year-on-year, slightly lower than the market expectation of 4.1%. Chicago Federal Reserve Chairman Goodsby previously stated that progress can be seen in reducing inflation, but price pressures are still higher than the Federal Reserve hopes.
Recently, two Federal Reserve directors who strongly supported interest rate hikes last year, Waller and Bauman, both expressed their willingness to see interest rates remain unchanged, which the market believes is a signal that the current interest rate hike cycle has ended. Among them, Waller, as one of the most hawkish officials of the Federal Reserve, publicly stated that the current monetary policy seems to be sufficiently restrictive to lower inflation to the Fed's target of 2%. Another director, Bauman, expressed it relatively tactfully: "If the upcoming data indicates that inflation progress is stagnant or insufficient to timely reduce the inflation rate to 2%, I am still willing to support raising the federal funds rate at future meetings."
Nick Timiraos, a journalist known as the "New Federal Reserve News Agency," said that Federal Reserve officials are actually becoming more confident that there is no need to continue raising interest rates to curb inflation, but they do not have the confidence to announce that the rate hikes have ended. So they will not raise interest rates temporarily in December, while maintaining a more hawkish guidance. Federal Reserve officials are looking forward to seeing more data proving a cooling of inflation.
Evans May Wealth Managing Partner Brooke May stated that the Federal Reserve is concerned that any signal from policymakers that may be about to cut interest rates could lead to another significant increase in asset prices. If this leads to an increase in inflation, Powell may take a tough stance, which could lead to increased volatility in the coming weeks.
In addition, lower than expected US bond issuances in the fourth quarter were also one of the factors affecting the decline in US bond yields. Zhao Wei's team from Guojin Securities said that the US Treasury Department was more cautious in its fourth quarter refinancing meeting and took a more moderate stance in the issuance of long-term US bonds. The Treasury Department planned to reduce the net issuance of treasury bond bonds in the fourth quarter. At the same time, the US Treasury Department slowed down the auction pace of 10-year and above treasury bond, and the auction pace of 2-7-year treasury bond remained unchanged. The market has responded positively, with a significant decline in 10-year US Treasury yields.
Does the market underestimate the possibility of the Federal Reserve raising interest rates again?
Although the "pigeon sound" has become the mainstream in the market at present, there are still many views that the market may underestimate the possibility of the Federal Reserve raising interest rates again.
Bloomberg on-site reporter and strategist Simon White wrote that although the Federal Reserve lacks precedent for raising interest rates again after such a long pause, this does not mean it will not happen, and tightening policies may be necessary to deal with stubborn inflation. This leads to yields appearing low as they are influenced by higher short-term interest rates and rising nominal GDP.
Although Nick Timiraos believes that Federal Reserve officials are confident that there is no need to continue raising interest rates to curb inflation, he still emphasizes that officials are unlikely to eliminate the so-called tightening tendencies at the December 13th meeting. This means that the meeting will focus on discussing how long it is still possible to send a rate hike signal, which will be a necessary step before considering whether to cut rates.
Richmond Fed Chairman Barkin also announced this week that if inflation rises again, I believe there should be more options to raise interest rates. New York Fed Chairman Williams also ignored the question of when officials may cut interest rates this week, stating that it is a "hypothesis" and "something that will happen for a long time in the future.".
The Office of Investment Director (CIO) at UBS Wealth Management believes that the Federal Reserve may not be the first central bank to cut interest rates, and the Federal Reserve may not be the first central bank to do so. Overall, slowing growth and falling inflation should prompt many major central banks to cut interest rates in 2024. But Federal Reserve Chairman Powell warned against inflationary "feints" - the downward trend may reverse.
"We expect the Federal Reserve to cut interest rates two to three times next year, each time by 25 basis points. The decision to cut rates depends on the performance of the data, and the specific timing may not start until next summer. The Bank of England and the European Central Bank may cut rates earlier, and we predict that these two central banks will cut rates three times next year, starting in May and June, respectively." UBS Wealth Management Investment Director's Office (CIO) further stated.
Yang Aozheng, Chief Chinese Market Analyst at FXTM, stated that the expected divergence between the Federal Reserve and the market will focus on the "interest rate reduction schedule". He stated that December 13th will be the last interest rate decision of the year. Although the market no longer believes that the Federal Reserve will raise interest rates again, and this cycle of rate hikes is expected to come to an end, the expected divergence between the Federal Reserve and the market in the future will be on the schedule of rate cuts.
Looking ahead to the performance of US Treasury bonds next year, CICC Research believes that a downward trend in interest rates will be a major trend, but it is necessary to grasp the pace of the downturn, and changes in fiscal bond issuance and economic growth factors will be the main focus.
"Firstly, in the first quarter of next year, given that the issuance of bonds is still at a historical high and the slowing economic growth rate, the volatility center of US bond interest rates will reach the next level. We expect it to reach 4.1% -4.3% (fiscal and bond issuance pressures will continue to be released by 20 basis points, and if the Federal Reserve stops shrinking its balance sheet at that time, interest rates are expected to be even lower)," said CICC Research.
In another report, CICC Research also mentioned that the downward rhythm of US bond interest rates may not be smooth sailing for the following three reasons: firstly, there is a possibility of fluctuations in economic data itself; 2、 The current level of tightening is just right, and the market's spontaneous trading may be "loose" or attract "knocking"; 3、 The Federal Reserve's decision-making approach may require more "reverse pressure" rather than a "proactive turning process.". Overall, the central decline in US bond interest rates is the main direction, with 3.9% next year; The rhythm may fall in a stepped manner, and it is necessary to force "no interest rate increase" and "interest rate reduction" respectively. In the short term, if there is a further surge, it can be intervened again, and if there is a sudden drop, it can temporarily stop earning.