Quarterly Outlook
Macro outlook: Trump 2.0: Can the US have its cake and eat it, too?
John J. Hardy
Global Head of Macro Strategy
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Weak demand leaves US Treasuries vulnerable
Althea Spinozzi
Head of Fixed Income Strategy
Summary: We are closing a busy week as the US Treasury issued 2-, 5- and 7-year notes. Although the market seems to have come out unscattered, we believe that yields may be stabilizing before a deeper selloff in Treasuries.
Yesterday’s 7-year auction was better than February’s sale but not good enough to forecast a consolidation of yields in the mid-term. Indeed, although the bid-to-cover ratio rose to 2.23x versus 2.04x prior, it was still below the twelve months average. The notes priced 2.5 basis points over When Issued (WI) yield, and 10-year Treasury bond yields spiked by four basis points indicating disappointment in the auction’s results. Similarly, this week’s 2- and 5-year auctions have seen an improvement in demand versus the previous month. Still, their bid-to-cover ratio was below their six-month average, pointing that the Federal Reserve might need to pick up the bill if demand continues to lag.
We believe that the results of this week’s auctions are worrying. Demand should have been solid because corporate pension funds are more likely to allocate capital into bonds at this time of the year. The weak link of these auctions continues to be foreign demand, representing a third of the total. Any decrease in indirect bidders will inevitably weigh on domestic bidders and ultimately the Fed. As per the graph below, although indirect bidders increased sensibly since the disastrous 7-year auction of last month, demand is still the lowest since August 2019. The reason why we continue to see weak foreign demand might lay within conflicting Federal Reserve Monetary policies. On one side, the Fed remains supportive of the yield curve’s front end. On the other, it leaves the long part of the curve free to fluctuate, making it vulnerable to higher inflation expectations.
We believe that US Treasuries’ demand will most likely pick up when 10-year yields hit the pivotal level of 2%, driven by strong economic growth and higher real yields.
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