A massive sell-off in bond markets have over the past weeks pushed long US government bond yields to new highs. The 10Y UST yield has risen 60bp over the past couple of weeks, and the current level is now trading at 4.72% – an increase of 100bp since June and close to the highest level since 2007. Market inflation expectations have only risen marginally, which has left real rates significantly higher. And apparently without a clear macro trigger as growth data has generally been in line with expectations, core CPI is still on the downward trajectory and the Fed communication has been very similar to the ‘higher for longer’ signals presented at the September meeting. So what is going on? A number of factors have likely worked to shift the supply-demand balance in the market. A record high issuance of long-end US bonds has increased the supply of bonds. At the same time demand has been weak due to investor positioning being overweight long bonds, the Fed is doing quantitative tightening (QT) and demand from China and Japan seems to have come down. However, we do not believe the increase is sustainable. It adds to financial tightening and puts downside risks to growth forecasts in 2024, which in turn could lead to earlier Fed cuts. The rise also comes on top of other new headwinds to US private consumption from US student loan payments that resumed on 1 October and the rise in gasoline prices eroding household purchasing power. There is also a risk that new skeletons fall out of the closet due to the sharp rise in yields, as was the case in March with the collapse of Silicon Valley Bank. We thus continue to look for lower yields with US 10Y yield falling to 3.70% on a 12M basis, see also Research – US: Yields not bound to be high for long, 5 October
The Fed has not commented a lot on the latest run-up in yields, but Cleveland Fed President Loretta Mester did say Thursday that officials are watching the rise in yields, while adding that it’s not clear the increase would be sustained.
On the economic front there are some signs that the global manufacturing may be at a turning point, at least temporarily. The US ISM index for September showed a rise in the new orders index to 49.2 from 46.8 in August and up from the low of 42.6 in May. Export data out of Asia have also improved lately, normally a sign of a manufacturing inflection point. However, it is likely mostly related to a turn in the inventory cycle, which will only give a temporary lift if underlying demand is not improving and we see downside risks to the latter. While manufacturing looks to improve, the service sector has been weakening. It was also confirmed by a decline in the US ISM service order index to 51.8 in September from 57.5 in August. US labour market data were mixed with the JOLTS job openings showing a renewed increase, while ADP employment disappointed (US non-farm payrolls were released after the deadline of this publication). We haven’t had much economic news in the Euro area or China (where it has been Golden Week holiday), but we released the Euro area macro monitor: Data still supporting soft landing, 2 October, which provides an overview of recent developments.
Next week focus will also be on the US with the release of CPI for September. We forecast both headline and core CPI below consensus expectations at +0.2% in m/m SA terms (consensus 0.3%) underpinning the picture of slowing underlying inflation and our forecast that the Fed will stay on hold, not least in light of the latest financial tightening.
