The sell-off in the US Treasury market has accelerated over the last few days and now has an increasing number of parallels to the experience of the 2013 ‘taper tantrum’.
As was the case then, the rise in bond yields has infected the front end of the yield curve to the extent that at one point on Thursday, an entire 25bp policy rate rise by the US Federal Reserve had been priced in in 2022 futures (see exhibit 1), several further interest rate increases were discounted for 2023 and more in the years beyond.
Up to now, the message from Fed officials has been that the repricing in the US fixed income market is not a concern. Officials have argued the US economic outlook is brighter now thanks to the rollout of vaccinations and (the prospect of more) fiscal stimulus. In this way, they have implicitly endorsed part of the rise in US interest rates.
The latest market moves, however, have been much more aggressive. Market pricing is currently starkly different from the (admittedly now well out-of-date) December 2020 ‘dot plot’ (see exhibit 2).
Exhibit 2: Here is what US Federal Reserve policymakers in December 2020 expected the Fed funds rate (the main central bank policy rate) to be over the 2020-2023 period – graph shows that most central bankers did not foresee a change in rates by 2023 (‘dot plot’; midpoint of target range in %)
Source: US Federal Reserve; Dec 2020
One particularly notable feature is that inflation breakevens have moved lower. That can be seen as an indication that market pricing is starting to become inconsistent with the Fed’s new average inflation target framework. Given that, further moves of the size seen on Thursday will likely start to worry the Fed.
Should Fed officials want to pull the market back down, they have an escalating series of options:
We are keeping a close eye on the bond market outlook and the responses from key central banks in other developed markets to what is happening.
Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients. This document does not constitute investment advice.
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