US Treasury Yields Fall as Powell Keeps Rate-Cut Bets Alive
(Bloomberg) — US Treasury yields fell to the lowest levels in weeks after Federal Reserve Chair Jerome Powell’s comments left intact expectations for two more interest-rate cuts by the end of the year.
Following Powell’s speech to business leaders in Philadelphia, yields fell as much as three basis points, led by shorter-dated tenors that are more sensitive to changes in monetary policy. The rate on benchmark 10-year notes dipped to 4.02%, around levels last seen in early September.
The Fed chief said the outlook for inflation and employment appears to have changed little since officials’ last meeting in September, when they cut interest rates for the first time this year in response to signs of weakness in the labor market. Interest-rate swaps continue to show policymakers will reduce rates by a quarter-point at the October and December meetings
Monetary policy expectations are “still signaling an October cut on the table, and the hurdle to change that is high,” said John Briggs, head of US rates strategy at Natixis North America.
Swap contracts tied to the outcome of specific Fed policy meetings are pricing in close to 1.25 percentage points of easing by the end of next year, from the current band of 4%-4.25%. The outlook has become murky, however, amid the dearth of economic data caused by a US government shutdown that began Oct. 1.
Still, Powell said, “available evidence suggests that both layoffs and hiring remain low, and that both households’ perceptions of job availability and firms’ perceptions of hiring difficulty continue their downward trajectories.”
Swap Spreads
Much of the speech was devoted to the Fed’s balance-sheet management, with implications for the relative value of Treasuries and interest-rate swaps. The effect of those comments was to cheapen swaps relative to Treasuries, causing sharp moves in swap spreads. For example, the 30-year swap rate increased by nearly three basis points to about 3.88% while the 30-year Treasury yield was little changed.
The Fed since 2022 has been shrinking the size of its balance sheet by not replacing all of its maturing Treasury holdings, though it has lowered the redemption cap in stages, most recently to $5 billion a month. Its plan — under discussion for years, most recently at the September meeting, according to the minutes — has been to stop the runoff when it determines that further drainage of reserves from the banking system could harm liquidity.
Related story: Fed Minutes Show Debate Over Balance Sheet Runoff Continues
Powell Tuesday said that point could be reached “in coming months,” and the prospect of additional Fed demand for Treasuries allowing smaller amounts to be raised from private investors sparked a cheapening move in swaps.
“From a rates market perspective it adds momentum to swap spreads — less negative in the long end,” said Ed Al-Hussainy, portfolio manager at Columbia Threadneedle Investment. The firm has been “looking for this smoke signal on the balance sheet.”
Trade Threats
Earlier Tuesday, the trade-policy flareup hit stock markets globally, boosting demand for bonds despite the potential for protectionism to cause inflation. The UK market led gains for European government debt after an unexpected increase in unemployment prompted traders to add to bets on further interest-rate cuts from the Bank of England.
It’s “right back to trade shenanigans, downside growth risks,” said Lauren van Biljon, senior portfolio manager at Allspring Global Investments, on Bloomberg TV. “There’s quite an aggressively priced US easing cycle.”
Markets tumbled on Friday as President Donald Trump threatened new tariffs on China, in response to Beijing tightening export controls on rare earths. In the latest move, China sanctioned US units of a South Korean shipping giant.
The US 10-year yield dipped below 4% for the first time in nearly a month, before rebounding. Its German counterpart dropped as much as five basis points to 2.58%, the lowest level since July 4, while the UK’s sank seven basis points to 4.57%, the lowest level since Aug. 11.
What Bloomberg Strategists say…
“Treasuries continue to benefit from Friday’s aggressive flight-to-safety bid after President Donald Trump’s threat to impose “massive” new tariffs on China. With China hitting back with shipping sanctions, bonds are likely to continue to draw buyers until there’s clarity on the extent the world’s two largest economies are willing to escalate the trade war.”
—Alyce Andres, Macro Strategist, Markets Live
For the full analysis, click here.
Government bonds have retained their traditional role as a haven asset, even as concerns around deficits spur some money managers to pursue the so-called debasement trade. Its adherents are pulling away from sovereign debt — and the currencies they are denominated in — on concern their value will be eroded over time, opting instead for precious metals and cryptocurrencies.
Bitcoin fell as much as 5% to around $110,000 on Tuesday, WTI crude dropped toward $57 a barrel and the S&P 500 index rebounded from a 1.5% decline.
“The drop in equities and commodities is a clear sign of risk aversion,” said Kathleen Brooks, research director at XTB. “Money is instead moving into sovereign bonds.”
(Adds interest-rate swap spreads beginning in seventh paragraph and updates yield levels.)
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