Bond Traders Weekly Outlook: What Would a 2024 Global Yield Spike Do?

The bond market has thrown out a challenge to traders and Fed officials and ask themselves was last quarters rip your heads squeeze rally a head fake in an ongoing global bond bear market? Do they downplay the odds of a surprising stronger U.S. economy than forecast? Labor markets remain tight, while many politically motivated pundits call victory on what is in reality already elevated inflation above the 2% goal. We saw UK and Canada both report stronger-than-expected inflation. it was only three months ago global markets were leaving ‘bodies’ from spiking global yields.

Food for thought, what would a 2024 global yield spike do? We have multiple global flashpoints with clear inflation ramifications and risks. So far oil has avoided much higher, that said WTI is still over $72bbl. is not helpful for lower inflation. Crude oil approached its January high (75.25) but eventually slipped back below its 50-day moving average (73.71). Stay alert to possible bifurcations, global disasters can also lead to deflation and global trade destruction.

Hungry Bond Traders

The longer rates stay elevated the risk of a downturn increases. This is telling at the margin with more signs of consumer stress as higher borrowing costs and weaker hiring start to eat into household spending. With the Fed seen being close to its policy rate peak, next up is focusing on growth softening.

Understandably, aware of past Fed behavior markets are conditioned for loose conditions. They expect Fed loosening measures to reverse any meaningful tightening, hence constant flipping between end of inflation and hawkish Fed speaks trades.

Weekly Recap

U.S. Treasuries suffered a down week paced by relative weakness in the 2-yr note with losses in most tenors. The 2-yr note yield saw its highest closing level in a month as prospects of a March rate cut faded. Treasuries were pressured Friday after a slight miss in Existing Home Sales in December (actual 3.78 mln; consensus 3.80 mln), and the robust preliminary reading of the University of Michigan’s Consumer Sentiment Index for January (actual 78.8; consensus 68.8) well ahead of estimates, its highest level since July 2021 with year-ahead inflation expectations decelerating to 2.9% from 3.1%, a rate not seen in just over three years.

This week’s $13 billion 20-yr bond auction met weak dollar demand. Treasuries shorter tenors underperformed. The high yield (4.423%) tailed when issued yield by 0.8 bps while the bid-to-cover ratio (2.53x vs 2.64x average) and indirect takedown (62.2% vs 70.7% average) were below average. The desk gave a D auction grade.

We had also seen UK headline inflation at 0.4% for the month (4.0% y-o-y) and Core CPI up 5.1% y-o-y. Bloomberg ran with the headline: “UK Inflation Shock Sets Gilts Up for Worst Ever Start to a Year.” Canada’s core inflation jumped to 3.65%, 0.30% above expectations. Bloomberg for their part: “Core Inflation Spurs Traders to Pare Bets on Canada Rate Cuts.”

What followed was a turn in Fed rate cut expectations, with Fed Fund futures pricing a 25-bps cut at the March 20th FOMC meeting falling to 45.4% from 55.5% from the day before and down from the previous Friday’s 83% and half of the 100% to end 2023. The market closed the week expecting a 3.98% Fed funds rate for the December 18th meeting, up from last Friday’s 3.65% and the year-end 3.75%. Markets are now pricing 135 bps of 2024 cuts, down from last week’s 168 bps.

This week put some renewed pressure on the 2s10s spread, compressing it by six basis points to -26 bps. The U.S. Dollar Index briefly climbed past its 200-day moving average (103.45) for the third consecutive day, but eventually turned lower, slipping 0.2% to 103.32, though it still gained 0.9% for the week.

The bond market has thrown out a challenge to traders and Fed officials and ask themselves was last quarters rip your heads squeeze rally a head fake in an ongoing global bond bear market? Do they downplay the odds of a surprising stronger U.S. economy than forecast? Labor markets remain tight, while many politically motivated pundits call victory on what is in reality already elevated inflation above the 2% goal. We saw UK and Canada both report stronger-than-expected inflation. it was only three months ago global markets were leaving ‘bodies’ from spiking global yields.

Food for thought, what would a 2024 global yield spike do? We have multiple global flashpoints with clear inflation ramifications and risks. So far oil has avoided much higher, that said WTI is still over $72bbl. is not helpful for lower inflation. Crude oil approached its January high (75.25) but eventually slipped back below its 50-day moving average (73.71). Stay alert to possible bifurcations, global disasters can also lead to deflation and global trade destruction.

Yield Watch

Friday/Week

  • 2-yr: +7 bps to 4.41% (+26 bps for the week)
  • 3-yr: +5 bps to 4.18% (+28 bps for the week)
  • 5-yr: +2 bps to 4.07% (+24 bps for the week)
  • 10-yr: UNCH at 4.15% (+20 bps for the week)
  • 30-yr: -2 bps to 4.35% (+15 bps for the week)

Key Rates and Spreads

Rates

  • 10-year Treasury bonds 4.40%, up +0.35% w/w (1-yr range: 3.30-4.99) (new 15 year high 10/20/23 w/e)
  • Credit spread 1.36%, down -0.21% w/w (1-yr range: 1.36-2.42) (new 1 year low 1/19/24 w/e)
  • BAA corporate bond index 5.76%, up +0.15% w/w (1-yr range: 5.28-6.80) (14 year+ high w/w 10/20/23)
  • 30-Year conventional mortgage rate 6.92%, up +0.23% w/w (1-yr range: 6.07-8.03) (new 23 year high 10/20/23 w/e)

Yield Curve

  • 10-year minus 2-year: -0.25%, down -0.04% w/w (1-yr range: (-1.07 – -0.17) (new 40 year low)
  • 10-year minus 3-month: -1.22%, down +0.20% w/w (1-yr range: -1.89 – 0.21)
  • 2-year minus Fed funds: -0.93%, up +0.24% w/w.
10-Year Treasury Constant Maturity Minus 2-Year Treasury Constant Maturity (T10Y2Y)

Money Market Flows

  • Total money market fund assets declined $14.1bn to $5.961 TN.
  • Money funds were up $1.156 TN, or 24%, y-o-y.
  • Total Commercial Paper surged $24.4bn to $1.255 TN. CP was down $45.6bn, or 3.5%, over the past year.

Bond auctions this week:

Bond auctions week ahead:

Next week will bring some new supply.

  • Monday: $75 billion 13-week bills, $68 billion 26-week bills,
  • Tuesday: $75 billion 42-day cash management bills, 46 billion 52-week bills, $60 bln 2-yr Treasury note auction results at 13:00 ET
  • Wednesday: $56 billion 17-week bills; $61 bln 5-yr Treasury note auction results at 13:00 ET
  • Thursday: $80 billion 4- and 8-week bills; $41 bln 7-yr Treasury note auction results at 13:00 ET

Source: UST Upcoming Auctions

Dollar Denominated EM Debt Market says Caution.

With all the geopolitical angst we are seeing warning signs of global de-risking/deleveraging and associated liquidity issues with that. Meanwhile while US stock markets hit all-time highs ten-year yields this week were up solidly in:

  • 35 bps in Colombia (7.33%), year to date surge +69 bps in Columbia
  • 26 bps in Panama (7.12%), year to date surge +49 bps in Panama
  • 26 bps in Peru (5.40%), year to date surge +48 bps in Peru
  • 25 bps in Turkey (7.67%), year to date surge +66 bps in Turkey
  • 19 bps in Mexico (5.71%), year to date surge +30 bps in Mexico
  • 17 bps in Indonesia (5.15%), year to date surge +42 bps in Indonesia
  • 14 bps in Brazil (6.15%). year to date surge +23 bps in Brazil.
  • The three-week yield surge 34 bps in the Philippines, 29 bps in Chile

European peripheral bonds surged also

  • Portuguese yield surged 40 bps this week, now up year to date +52 bps.
  • Spain yield surged 16 bps to 3.25%, now up year to date +26 bps
  • Italy yield surged 15 bps to 3.88% this week, now up year to date +18 bps.
  • Germany surged 16 bps to 2.34% this week, now up year to date +32 bps.
  • France surged 15 bps to 2.83% this week, now up year to date +27 bps.
  • UK yield surged 14 bps to 3.93% this week, now up year to date +39 bps.
  • Greece gained 12 bps to 3.35% this week, now up year to date +30 bps
  • Australian 10-year yields jumped 22 bps this week (up 34 bps y-t-d).
  • Canadian 10-year yields surged 27 bps this week to 3.49% (up 38 bps y-t-d).

US banks Preference Toward Maintaining Reserves Impact

There has been a continuation of US banks are showing a preference toward maintaining reserves over US$3T and in order to achieve this the banks are being forced to liquidate their Treasury holdings and hence drive yields higher. Earnings reports from JPM, WFC and C gave us further indication of this pattern.

Still treasury yields have comeback with a growing sense that the bond and stock market are oversold in the short-term and due for a bounce.

Recap: The Markets Response to The Dovish Pivot Message

  • Nasdaq100 up 3.2% gain this week pushed Nasdaq100 ytd returns to 52%.
  • Semiconductors added another 9.1% adding to be up 62.6% ytd.
  • The S&P500 ended the week with a y-t-d return of 24.9%.
  • The Goldman Sachs most short index surged 14.4% Wednesday and Thursday, trading Friday morning up almost 40% from November 13th lows.
  • The KBW Regional Bank Index (KRX) posted a two-day melt-up of 10.2%, boosting the rally from October 25th lows to 40%.
  • The Wednesday/Thursday “pivot rally” saw the small cap Russell 2000 jump 6.3%, extending the rally off October 27th lows to 22%.
  • Investment-grade CDS prices dropped another four this week to 57.5 bps, the low since January 2022.
  • High yield CDS sank 35 to 367 bps, the lowest level since April 2022.
  • Investment-grade corporate spreads to Treasuries traded Friday below 100 bps for the first time since January 2022.
  • High yield spreads narrowed to April 8, 2022, levels.
  • The iShares High Yield Corporate Bond ETF (HYG) has now returned 5.6% since the Fed’s first hike on March 16, 2022.
  • JPMorgan CDS fell this week to 44.65, the low back to November 2021.
  • Goldman Sachs CDS traded to lows since January 2022.

There is a firm belief the Central Banks have been blindly raising rates because ‘they have to’ and the consequences will be dire, furthermore that the US Administration is bumbling along with damaging decisions one after the other.

Spurred by slowing inflation and signs of a cooling growth, traders and investors have recently rushed headlong into US government debt, convinced that the Federal Reserve is done raising interest rates and will shift to cutting them by the middle of next year. That ended a six-month losing streak for Treasuries and pushed the market to a gain of 2.6% in November. It’s the biggest advance since March, when there were fears that a banking crisis would sink the economy.

2-, 10- and 30-Year Treasuries Technical Analysis via KnovaWave

Highlights – Federal Reserve

  • Federal Reserve Credit increased $2.5bn last week to $7.650 TN.
  • Fed Credit was down $1.251 TN from the June 22nd, 2022, peak.
  • Over the past 227 weeks, Fed Credit expanded $3.923 TN, or 105%.
  • Fed Credit inflated $4.839 TN, or 172%, over the past 584 weeks.
  • Fed holdings for foreign owners of Treasury, Agency Debt declined $4.6bn last week to $3.379 TN.
  • “Custody holdings” were up $48.5bn, or 1.5%, y-o-y.

Powell at the FOMC:

“Our actions have moved our policy rate well into restrictive territory, meaning that tight policy is putting downward pressure on economic activity and inflation, and the full effects of our tightening likely have not yet been felt.”

“So we’re aware of the risk that we would hang on too long. We know that that’s a risk, and we’re very focused on not making that mistake.”

BUT Powell’s own comments are contradictory. “GDP is on track to expand around 2-1/2 percent for the year as a whole, bolstered by strong consumer demand as well as improving supply conditions.” “Committee participants revised up their assessments of GDP growth this year…” “The labor market remains tight… labor demand still exceeds the supply of available workers.” “…A very high proportion of forecasters predicted very weak growth or a recession. Not only did that not happen, we actually had a very strong year…” “So we’ve seen… strong growth, still a tight labor market…”

Highlights – Mortgage Market (Prior Week)

  • Freddie Mac 30-year fixed mortgage rates declined six bps to 6.60% (up 65bps y-o-y).
  • Fifteen-year rates dropped 11 bps to 5.76% (up 58bps).
  • Bankrate’s survey of jumbo mortgage borrowing costs had 30-year fixed rates unchanged at 7.06% (up 69bps).
Mortgage News Daily

Major Benchmark 10-year Bond markets

Highlights – European Bonds

  • Italian yields rose 15 bps to 3.88% (up 18bps y-t-d).
  • Greek 10-year yields gained 12 bps to 3.35% (up 30bps).
  • Spain’s 10-year yields rose 16 bps to 3.25% (up 26bps).
  • German bund yields increased 16 bps to 2.34% (up 32bps).
  • French yields gained 15 bps to 2.83% (up 27bps).
  • The French to German 10-year bond spread narrowed one to 49 bps.
  • U.K. 10-year gilt yields rose 14 bps to 3.93% (up 39bps).

Italy’s and the UK’s 10-year bond yields are the highest in the G7 after the U.S. as markets continue to worry about the extent of interest rate hikes that will be needed to bring inflation back under control.

Highlights – Asian Bonds

  • Japanese 10-year “JGB” yields jumped six bps to 0.67% (up 5bps y-o-y).

Key US Bond Auction Highlights 2024

With all the redirection of blame at the Fed about inflation one has to understand it is a global phenomenon outside the Fed’s Control. With the war drums louder than ever the supply chain issues are out of control. The Federal Reserve is not in control of global energy and commodities prices.


Bond Market Performance 2023

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Sources: Scotia Bank, TC, FT

Note these charts, opinions, news, estimates and times are subject to change and for indication only. Trade and invest at your own risk.

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