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Macro Outlook: The US rate cut cycle has begun
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Chief Investment Strategist
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The bull, the bear and the supply
Althea Spinozzi
Head of Fixed Income Strategy
Summary: This week’s US Treasury auctions and good CPI numbers might drive US Treasury yields lower, but their uptrend will likely remain intact. If current market levels hold, the new 10- and 30-year US Treasury bonds will price at the highest yield in fourteen and eleven years, attracting high investor demand. Solid bidding metrics will temporally remove concerns regarding an increase in upcoming Treasury supply. Yet, ten-year yields need to break below 3.75% to enter a downtrend, while 30-year yields will need to break below 4%. Overall, we remain constructive on higher rates before a bond bull market forms.
The US Treasury bond issuance spree starts this week, with the US Treasury selling $103 billion between 3-, 10- and 30-year notes, the largest auction volume for these three maturities since March last year.
The increase in coupon auction size is extraordinary outside of a crisis. Compared to last month, the size of the thirty and ten-year US Treasury bond sales increased by 38% and 19%, respectively, the most significant boost since June 2020, amid the Covid pandemic. However, the macroeconomic backdrop has sensibly changed since then. Inflation has increased to a level we haven’t been accustomed to for decades, and the Federal Reserve has hiked rates aggressively. Despite that, inflation remains elevated, and more tightening might be warranted by year-end, adding to a bearish bond market. In contrast, in 2020, the uncertainty regarding the pandemic increased safe-haven demand markedly.
However, this week, the US Treasury bond issuance might be appealing for real money. If US Treasuries hold current levels, the 10- and 30-year Treasury auctions may price at the highest yield in 14 and 11 years, respectively.
Significant demand may temporarily resolve concerns regarding upcoming larger auction sizes, resulting in a short-lived bond bull market.
Also, Thursday's CPI numbers might contribute to such a rally. The monthly core CPI is expected to come at 0.2% for the second month in a row. That could increase market confidence that inflationary pressures are adjusting lower and that the bond bull market might start.
Yet, a bond bull market is further away than many believe.
We expect inflation concerns to revive in the fall, renewing expectations of further central banks tightening. At the same time, the quarterly refunding announcement shows that coupon issuance might increase into the new year, applying more upward pressure to yields.
Therefore, yields might rise further before they start to fall decisively.
For 10-year yields to enter into a bearish trend, we need to see them dipping below 3.75%. Similarly, thirty-year yields must drop below 4% to enter a downtrend.
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