(Bloomberg) — Some big bond investors say they won’t be swayed by the Treasury market’s breakout rally on Wednesday.
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It’s the hawkish signals still coming out of the Federal Reserve that matter. The rest is noise.
The world’s largest bond market has been hit in recent days by the debt crisis that has affected the UK. Benchmark 10-year Funds fell sharply since the Covid crash on Monday, only to bounce back as quickly on Wednesday when the Bank of England stepped in to buy gold and stabilize the market.
But the ruckus did little to change the force that pushed the Treasury market this year to its deepest losses in years: the Fed’s intention to keep raising interest rates until inflation picks up again.
“You can see the footprint of the gilt market across the U.S. Treasury market over the past week,” said Bob Miller, head of American fixed income at BlackRock Inc., the world’s largest asset manager. “The signal value from price action in the US bond market is being significantly degraded by non-domestic factors.”
After the 10-year yield broke 4% for the first time since 2010 early on Wednesday, the market suddenly changed course when the Bank of England moved in.
Yields on some UK government bonds fell by more than a full percentage point, dragging down US bond yields as well. The benchmark 10-year Treasury yield slipped as much as 25 basis points to 3.69% before paring the fall, nearly erasing the rise two days earlier. However, it is still up from 3.53% in the previous week, when the Fed enacted its third straight three quarter point rate hike.
The huge swings across the Treasury curve have driven a measure of implied volatility back to levels seen in March 2020, when markets went wild as the pandemic spread in the US. This week’s movements may also be exaggerated by the end of the quarter, which is usually a period of thin liquidity as money managers adjust their portfolios.
“I don’t think what we’ve seen today in the bond market indicates a change in the Fed’s approach,” said Steve Boothe, head of the investment-grade fixed income team and portfolio manager at T. Rowe Price. “It’s clear that rate volatility right now is being driven by what’s going on around the world.”
Several Fed officials have declared in the last few days that the central bank needs to tighten policy rates much further than the current band of 3% to 3.25%, which would drag down the bond market even more. Speaking on Wednesday, Atlanta Fed President Raphael Bostic said inflation remains too high and supports raising rates by another 1.25 percentage points by the end of this year.
BlackRock on Miller said the Treasury rally on Wednesday and trading futures show speculation that the Fed rate will peak below 4.5% but “noise,” worsened in part by poor liquidity.
“At a high level, the Fed still has a ways to go,” he said. “I wouldn’t get caught up in the short-term price action. There is a lot of talk in the market as to whether there is enough stress to put the Fed back. But it comes from outside the US and is outside the Fed’s control.”
Unless an international crisis were to throw the domestic economy hard, the Fed is not expected to change, given its focus on mitigating an inflationary surge that was thought to be temporary. David Kelly, chief global strategist at JPMorgan Asset Management, said he does not expect the Fed to back off its hawkish tone anytime soon.
“The Fed is well aware that any hint of a pivot point would bring long-term rates down and undo their efforts to tighten financial conditions,” he said.
Gregory Faranello, head of US rates trading and strategy for AmeriVet Securities, said he expects a similar solution. “Unless something breaks in the US market, the Fed seems very committed to finishing the work they started in 2022,” he said.
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