,If the view is that the Fed is hiking rates, we expect this to happen only in 2023.
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THE 10-year US Treasury yields (UST10), which act as a key reference point for global assets around the world, fell to 1.18% earlier in August following a sharp rise of debt prices.
It happened despite the US economy recovering strongly and growing signs that the US Federal Reserve (Fed) is on the edge of rolling back its stimulus programme, which typically should send yields rising.
The trajectory of the UST10 plays an important role for global investors in the fixed-income market and is crucial for the future of stock rallies in the US and elsewhere. There is now renewed focus on the outlook of the UST10 after a rally during the summer in the US$22 trillion (RM91.31 trillion) US government bond market blindsided much of Wall Street.
Many, including us, were forced to revisit our earlier prediction that the UST10 yields would reach 2.00% by the year-end. This is despite the yields rebounding from a low of 1.18% to 1.34% on 25 August. While the data may have lost some momentum, it is hardly a reason for rates to be where they are now.
Current levels are more in line with a dimmer economic recovery. And it would in turn justify a much more limited central bank tightening. We found from our research and observation that the yields are expected to rise gradually and not sharply.
This means the upwards trend on the yields will not witness the same velocity of movement that we would expect had there been real inflation fear. Hence, we are taking a slightly easy tone with respect to the inflation outlook, expecting the current rise to be transitory. This is despite the uncertainties of a big “if” of inflation numbers rising steadily and the Fed’s failure to manage that effectively.
Besides, we are of the view that the Fed’s willingness to tighten monetary policy should also help keep a lid on inflation expectations. It is important to understand that the inflation is the focus of bond investors since it cuts into the income streams that the assets provide.
The higher the inflation goes, the lower real return will be. This would mean a more subdued price growth in the future which should help ease the longer term pressure on Treasuries if the Fed is bound to experience higher inflation.
Furthermore, the market could be over-reacting to the spread of Covid-19’s Delta variant and the effectiveness of vaccines although generally, the vaccines are still being viewed as highly efficacious against the variant.
There are some concerns that the economic recovery could lose some steam as it plays out in the economic data. And also the markets seem to be pricing in a lower neutral policy rate which we find rather out of place. If the view is that the Fed is hiking rates, we expect this to happen only in 2023.