Business

Bond investors are at risk of a Fed pause


(Bloomberg) — The emerging consensus that the Federal Reserve will only raise interest rates one more time or two has opened up a new set of dilemmas for bond investors, who must now decide determine which part of the market will be best priced under the circumstances.

Most read from ​Bloomberg

The US Treasury market reached an inflection point on Thursday as a report showed consumer inflation fell to its lowest level in more than a year and Philadelphia Fed President Patrick Harker 15 minutes later said he was in favor. another round of rate hikes. Market-implied expectations of the central bank’s February meeting point towards an increase of a quarter point instead of a half point, and offer small odds for the first time on the possibility of no move. in March.

Short- and medium-term yields fell sharply, hitting a three-month low, while 10-year yields fell below 3.5%, extending gains from around 3.8% at the start of the year. There are still many uncertainties; Earlier this week, two other Fed officials predicted an extended stay above 5% for the Fed’s overnight benchmark. But investors eventually ignored the threat of higher policy rates as they established positions.

“The market has devalued all of the Fed’s language about pushing the end-of-term rate higher than 5%,” said Ed Al-Hussainy, interest rate strategist at Columbia Threadneedle Investments. Having favored long-term bonds in recent months, he predicts mid-market sectors will perform best near the end of the bull cycle. Ultimately, “once the Fed tells us this is the last price hike – and March is a reasonable bet for that – the UI will be ready to go.”

Bond investors took a hit last year from rising yields when the Fed raised its target range for the overnight rate by more than 4 percentage points in response to rapidly rising inflation.

Accumulating evidence that inflation had peaked allowed the Fed to loosen its grip in December with a half-point gain after four consecutive three-quarter point moves. The last time consumer price growth slowed in December — excluding food and energy, the fourth-quarter rate was 3.14%, a 15-month low — triggered a wave of transactions. .

In Fed meeting date-related swaps, the expected peak for the overnight interest rate fell to 4.9%. Only 29 basis points increase was priced for the February 1 decision – suggesting that 1/4 point is preferred over 1/2 point – and less than 50 basis points priced in March.

A storm of bets on short-term interest rate options after inflation data predicting a Fed rate hike is coming to an end and market volatility is further reduced. They include a large one expressing the view that the cycle will pause after February.

“The path of short-term interest rates is closely tied to inflation, with a factor around how strong or weak the economy is,” said Jason Pride, chief investment officer at Private Wealth in Glenmede. “A 5% fund rate is needed if inflation is at 6% and 7%, not so when inflation drops to 3% and you could see annual inflation around 3% by the middle of this year. “

Beyond the short-term interest rate market, the new framework has spurred bets on the additional benefit of the Treasury bond market.

For Treasury futures, Thursday’s rally led to a large increase in open interest — the number of contracts with positions — particularly for the 10- and 5-year forwards. The increase equates to a purchase of $23 billion in the most recently issued 10-year bonds, about 20% of the outstanding amount.

The yield on the 10-year Treasury note, which peaked last year near 4.34%, could fall to around 2.5% within six months if inflationary trends are maintained, Al-Hussainy said.

“Most of the risk premium in the long-term end of the curve reflects inflation, and if it falls faster, or even at the current rate, there will be a large window of time to revalue,” he said. long term part.

It may be too early. The Treasury bond market is likely to have a period of consolidation after the market rallies.

“The inflation story is not over yet and there are some markets complacent that they have the right Fed strategy,” said Lindsay Rosner, a diversified portfolio manager at PGIM Fixed Income.

Treasury yields edged higher last year thanks to short maturities such as the two-year term, which remains the top yielding part of the market at around 4.21%. PGIM expects a reversal of that trend, but it can take a while to start.

“The ramp machine is the right deal for this year, and it really started when the Fed ended up raising prices,” she said.

What to see

Economic calendar:

  • January 17: Empire Crafting

  • January 18: Retail sales; producer price index; Industrial production; business inventory; housing market index NAHB; mortgage application; The Fed’s Beige Book; Treasury of International Capital

  • January 19: Housing starts to operate; Philadelphia Fed Business Outlook; unemployment claim

  • January 20: Existing home sales

  • Federal calendar:

    • January 17: New York Fed President John Williams

    • January 18: Atlanta Fed President Raphael Bostic; Philadelphia Fed President Patrick Harker; Dallas Fed President Lorie Logan

    • January 19: Boston Fed President Susan Collins; Vice President Lael Brainard; Williams

    • January 20: Harker; Governor Christopher Waller

  • Auction schedule:

    • January 17: bill 13 weeks, 26 weeks

    • January 18: 17 week bill; 20 year bond

    • January 19: bill 4 weeks, 8 weeks; 10-year Treasury inflation-protected securities

Most read from ​Bloomberg Businessweek

©2023 Bloomberg LP

news7f

News7F: Update the world's latest breaking news online of the day, breaking news, politics, society today, international mainstream news .Updated news 24/7: Entertainment, Sports...at the World everyday world. Hot news, images, video clips that are updated quickly and reliably

Related Articles

Back to top button