Five metrics bond investors are watching as COVID fears return



(Updates chart and text in paragraph 11 with positioning data as of July 20)

By David Randall and Saqib Iqbal Ahmed

NEW YORK, July 23 (Reuters) - A wild week in Treasuries has investors parsing the cross-currents that may sway prices for U.S. government bonds in coming weeks, including the Federal Reserve, economic data and investor positioning.

The yield on the benchmark 10-year U.S. Treasury, which moves inversely to bond prices, recently stood at 1.28% on Friday, after falling as low as 1.128% earlier in the week, nearly 65 basis points below its 2021 high on worries over slowing growth and spreading COVID-19 infections.

Flows into the iShares 7-10 Year Treasury Bond ETF IEF.O hit around $1.2 billion in the week ending July 21, their highest in a year according to Lipper, illustrating the demand for U.S. government bonds.

One of the key questions now hanging over markets is whether Treasury yields will continue moving toward 1% - revisiting the levels they touched during the pandemic - or rebound toward 2%, a level many participants expected to see by year-end.

Here are some indicators investors are watching to determine the course of the Treasury market.

TAPERING TALK

The Federal Reserve surprised many market participants with a hawkish shift at its June policy meeting, with its so-called dot-plot showing some officials moving up expectations of their first rate hikes to 2023.

With the Fed’s policy meeting concluding on July 28 and the central bank’s annual symposium at Jackson Hole scheduled for late August, investors will be watching for signs that officials are backpedaling on assurances that the current bout of inflation is transitory, a message that could rattle markets.

Investors will also be looking for signals on whether officials believe the Delta variant of COVID-19 may pressure growth, potentially delaying the unwinding of the Fed’s easy-money policies and depressing yields.

YIELD SPREADS

While Treasury yields have slid, the spread between Treasuries and high-yield bonds has remained steady. That suggests that some investors remain bullish on the economy overall, while short-term factors such as positioning and supply are driving the rally in Treasuries, said Jonathan Golub, chief U.S. equity strategist at Credit Suisse, in a report.

SHORT INTEREST

Leveraged funds - including hedge funds - have piled into bearish bets on U.S. Treasuries as part of the so-called reflation trade, which saw investors position for lower yields and buy shares of companies that could benefit from a powerful rebound in growth.

While net speculative bets on 10-year Treasury US10YT=RR futures flipped into bullish territory for the week ended July 13, those on other maturities, including 30-years, remained bearish, data from the Commodity Futures Trading Commission showed.

A reversal in that positioning could fuel Treasury gains and drag yields lower.

ECONOMIC DATA

While the economy continues to rebound from last year’s swoon, worries that the pace of growth is slowing contributed to the rally in Treasuries earlier this week.

Citigroup’s U.S. Economic Surprise Index, which measures the degree to which the data is beating or missing economists’ forecasts, stands at 11.6, compared with its record high of 270.8 touched in 2020.

Praveen Koropaty, U.S. interest rate strategist at Goldman Sachs, believes the Fed will want to see the employment reports from July, August and September before committing to an unwinding of its easy money policies.

At some point in November or December, “the Fed will announce a taper and I don't think the market will freak out as it will be well telegraphed,” he said.

BREAKEVEN INFLATION RATES

Breakeven rates - the spread in the yield between a Treasury note and a Treasury Inflation Protected Security of the same duration - are narrowing, a sign that investors are showing more faith in the Federal Reserve's estimate that high inflation will be transitory, wrote Craig Johnson, chief market technician at Piper Sandler.

"The rout in commodity markets and pullback in reflation momentum is giving the Fed’s forecast additional credibility," he said.



GRAPHIC: A sooner rate hike Link
GRAPHIC: Treasury yield and high-yield spreads Link
GRAPHIC: Speculative positioning Link
GRAPHIC: Citi economic surprise index Link
GRAPHIC: Breakeven inflation rates Link



Reporting by David Randall and Saqib Iqbal Ahmed Additional
reporting by Lewis Krauskopf and Sujata Rao
Editing by Mark Potter

Disclaimer: The XM Group entities provide execution-only service and access to our Online Trading Facility, permitting a person to view and/or use the content available on or via the website, is not intended to change or expand on this, nor does it change or expand on this. Such access and use are always subject to: (i) Terms and Conditions; (ii) Risk Warnings; and (iii) Full Disclaimer. Such content is therefore provided as no more than general information. Particularly, please be aware that the contents of our Online Trading Facility are neither a solicitation, nor an offer to enter any transactions on the financial markets. Trading on any financial market involves a significant level of risk to your capital.

All material published on our Online Trading Facility is intended for educational/informational purposes only, and does not contain – nor should it be considered as containing – financial, investment tax or trading advice and recommendations; or a record of our trading prices; or an offer of, or solicitation for, a transaction in any financial instruments; or unsolicited financial promotions to you.

Any third-party content, as well as content prepared by XM, such as: opinions, news, research, analyses, prices and other information or links to third-party sites contained on this website are provided on an “as-is” basis, as general market commentary, and do not constitute investment advice. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, it would be considered as marketing communication under the relevant laws and regulations. Please ensure that you have read and understood our Notification on Non-Independent Investment. Research and Risk Warning concerning the foregoing information, which can be accessed here.

We are using cookies to give you the best experience on our website. Read more or change your cookie settings.

Risk Warning: Your capital is at risk. Leveraged products may not be suitable for everyone. Please consider our Risk Disclosure.