Amid the recent surge in mid - and long-term Treasury yields, a number of Fed officials said in their latest comments that bond market volatility will directly affect the funding costs of households and businesses, and may guide the Fed to avoid further increases in policy rates in the future.
For the U.S. stock market, which has been depressed by policy expectations and the selling tide of U.S. bonds in the recent past, the ultra-low rebound is expected to gain important momentum.
Fed doves are back
Since the Fed raised its policy rate by 25 basis points in July, US medium - and long-term bond yields have generally risen by more than 100 basis points.
Boris Schlossberg, macro strategist at BK asset management, said in an interview with First Financial recently that the change in the Fed's interest rate pricing is the trigger for the trend of US Treasuries, "The September Federal Open Committee (FOMC) updated quarterly Economic outlook (SEP) shows that Growth and inflation were revised up, showing resilience while achieving price targets remains a long way off."
"We are in a sensitive period for risk management and must balance the risks of policy being too loose or too restrictive," Philip Jefferson, Fed vice chairman, said in a speech to the National Association for Business Economics on Tuesday. "Financial conditions will tighten through higher bond yields, and we will keep this in mind when assessing future policy," he added.
Speaking at the same event, Lorie Logan, president of the Dallas Fed, said the higher returns demanded by investors for holding long-term U.S. government bonds could offset the need for further increases in the Fed's policy rate: "If long-term interest rates continue to rise due to higher long-term premiums, then there may be less need to raise the Fed funds rate." It's important to note that Logan has been one of the hawkish officials in favor of continuing to raise rates.
While neither policymaker declared the battle against high inflation over, their comments were the clearest indication yet of how the Fed views the spike in Treasury yields. Both stressed in their speeches that it is important to understand the relationship between rising yields and appropriate monetary policy, and that anything that causes volatility in Treasuries will increase uncertainty. Logan said the recent rise in yields could be a result of investors demanding more money locked up for the long term - an increase in the so-called "term premium" that, if sustained, could create a lasting drag on the economy.
Schlossberg told CBN that while the Fed internally expects one more rate hike this year, the pricing of interest rate futures shows that the market does not believe this will happen. "Given the recent data and the tightening of financial conditions, if there are no surprises in this week's inflation report, the Fed will remain on hold, leaving the suspense of a rate hike to its last meeting at the end of the year." "The Fed needs to watch the effects of policy lag," he said. "The risk of policy overshoot at current interest rates cannot be ignored."
Us Stocks rally could see opportunity
The Treasury market is considered a cornerstone of pricing in the global financial system.
The yield on the benchmark 10-year Treasury note briefly breached 4.80 per cent last week, a near 16-year high, and the market is already looking ahead to when it will reach 5 per cent, potentially setting off another market storm. Societe Generale says a tail-risk scenario in which US 10-year yields rise to 5 per cent or more on a "no landing" backdrop has become the market's base case and could push the S&P 500 down to 4,000. Robert Daly, an analyst at Glenmede Investment Management, believes investors will demand more compensation to take on risk, and that market risk will be exposed when the outside world starts to see more and more liquidity evaporate.
As a result, the three major stock indexes fell to their lowest levels since June at one point last week, and the Dow gave up all of its gains for the year. The CME Group's Fear index, the VIX, a measure of market volatility, briefly crossed the 20 mark to hit a four-month high.
It is worth mentioning that in addition to interest rate sensitive growth stocks, the recent traditional safe-haven sectors of utilities and consumer staples have also suffered sustained selling, showing the psychological volatility of investors. Both sectors tend to have strong, stable dividends, and many investors see them as a safe haven in times of market turmoil. But the surge in bond yields has dented their appeal. Six-month Treasury bills currently yield about 5.6%, compared with 4% for utilities and 3% for consumer staples, according to financial data provider LSEG.
The next test for the Treasury market will be the September consumer Price Index, due this week. Institutions forecast that due to the stabilization of energy prices and further cooling of rents, the overall and core CPI last month is expected to continue to cool, and the anti-inflation path will further support the Federal Reserve to reach the end of the current tightening cycle, thus suppressing US Treasury yields and boosting risk appetite.
On the other hand, as the stock index began to continue to adjust in September, the short-term overfall has also brewed momentum for a rebound, and the fall in US Treasury yields is expected to further support the market to stabilize and rebound. Keith Lerner, chief market strategist at Truist Advisory Services, said: "The percentage of stocks in the S&P 500 above their 50-day moving average has fallen below the 20% oversold threshold in the past week, reaching as low as 15%. This means that investors are selling at any cost, which is often a sign that the market is leaning toward a rebound, but of course the space potential still depends on cooling yields and the upcoming earnings season." He wrote in a client note.