Bond traders face a week that threatens to break any market calm

(Bloomberg) — It’s been a volatile time for the Treasury market, and next week is sure to be no exception.

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Traders in the world’s largest bond market are bracing for another round of price fluctuations fueled by a Federal Reserve meeting, the Treasury Department’s quarterly debt sale announcement and continued global economic uncertainty that is fueling big moves. in the foreign exchange market.

The Fed is widely expected to raise its key rate by half a percentage point when it concludes its two-day meeting on Wednesday, which would mark the biggest move higher since 2000. But traders will be watching Chairman Jerome Powell’s press conference closely for gains. more clues about how high he thinks rates need to go to reduce inflation.

That will follow the Treasury Department’s quarterly repayment announcement on the same day, which will detail the size of future bond auctions just as the Fed prepares to gain market support by not buying new securities when some of its holdings mature. On Friday, the Labor Department will release its monthly jobs report, a crucial market-moving indicator of the nation’s economic growth and wage pressures fueling inflation.

The confluence threatens to short-live the trough of stability that slipped into the bond market over the past week, the first since late February during which yields failed to hit new highs. The rising US dollar, which has tightened financial conditions and is a drag on export growth, adds a new variable to the already complex calculation of whether Treasury yields have risen enough to hedge risks.

“There are so many unknowns that I think the market will remain volatile until we get a clearer picture of how the economy holds up as the Fed raises rates,” said Margaret Kerins, director of fixed income strategy at BMO Capital Markets. “The range of results is still too wide to rule out market volatility.”

By late Friday, US two-year yields had risen about 5 basis points over the week to 2.71%. The yield has risen nine months in a row, the longest stretch in Bloomberg data dating back to 1976. Meanwhile, 10-year yields hover not far below the 2.98% level hit on April 20, which it was the highest for the benchmark rate since December 2018.

More volatility would add to the testing period for bondholders already facing one of the toughest markets in decades, with US Treasuries down more than 8% year-to-date, according to a Bloomberg index. That puts the index on track for its worst year in history after a 2.3% drop in 2021. Bonds around the world have been hit by the same rout as central banks around the world seek to rein in inflation. .

Read More: Global Bonds Set for Worst Month Ever Before Rate Hikes Erupt

“I don’t think major bond investors are safe from high inflation just yet,” said Jordan Jackson, global market strategist at JPMorgan Asset Management.

Many traders expect the Treasury to reveal a third but final quarterly round of cuts to longer-dated debt sales on Wednesday, anticipating that the Fed will set a date for the start of its quantitative tightening, or QT. Others think that auction sizes may remain stable for that reason.

The Federal Reserve’s debt reduction, which will likely allow as much as $95 billion of its debt holdings to mature each month without profits being reinvested, will force the Treasury to borrow more from the public. That monthly cap would be split between $60 billion of Treasury bonds and $35 billion of mortgage debt, according to minutes from the latest Fed meeting.

Adding to the volatility is a battle between those who see rising risks of stagflation, or slowing growth coupled with sticky inflation, and others who expect the Fed to raise its policy rate beyond neutral quickly and trigger a recession. The neutral rate is the level that neither restricts nor stimulates economic growth.

Deutsche Bank AG economists are at the forefront of companies signaling the risk of a 2023 recession, predicting the Fed may have to raise rates as much as 6% to quell four-decade high inflation. Citigroup Inc. expects the Fed to raise rates by half a point at each of its next four meetings, but does not forecast a recession in 2023, although it sees the risks of a recession rising, according to Andrew Hollenhorst, chief US economist at the signature.

A record rise in labor costs in the first quarter, published on Friday, pushed money market traders to speed up the pace of 2022 tightening to around 2.5 percentage points between now and the end of the year. A day earlier, fears of a recession were briefly sparked by news that the US economy contracted surprisingly in the first quarter.

“I struggle with the idea that the economy can handle continued increases beyond neutral and QT,” said Priya Misra, global director of rates strategy at TD Securities. “I think the 10-year yield has more room to increase as the QT flow effect kicks in. But there is no consensus on either opinion in the market. People think that inflation could be sticky and that won’t allow the Fed to slow down, but I think the economy is not that resilient.”

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