By Investors and traders sought the safety of U.S. government debt on Tuesday, leading to a decrease in long-term yields. This decline indicates growing concerns about the possibility of an economic slowdown happening faster than expected.
The benchmark 10-year yield BX:TMUBMUSD10Y decreased by 12 basis points to approximately 4.17%, while the 30-year rate BX:TMUBMUSD30Y dropped by a similar amount, reaching nearly 4.32%. These significant moves managed to erase the gains observed on Monday. At the end of New York’s afternoon trading, both rates were poised to hit their lowest levels since September.
Apart from the potential growth prospects in the United States, several other factors influenced Tuesday’s session. One of them was the market’s anticipation of a rate cut by the European Central Bank next year. Furthermore, investors and traders made the decision to remove some of the “term premium” — the compensation previously demanded for holding longer-term debt to maturity, which had been put in place earlier this year.
Analysts believe the market is also taking into account the possibility of an unexpectedly rapid U.S. economic slowdown. While Tuesday’s movements may not yet fully reflect this, there is concern that such a slowdown could lead to a growth scare and undermine expectations for a smooth landing. The Atlanta Fed’s GDPNow estimate predicts a real GDP growth rate of 1.2% for the fourth quarter, compared to 1.8% last Thursday.
Quincy Krosby, LPL’s Chief Global Strategist, emphasized the need to monitor the 10-year yield closely. If it declines at a faster pace, it could indicate that “a growth scare has taken hold.”
The benchmark 10-year rate currently trades about 42 basis points lower than its 2-year counterpart BX:TMUBMUSD02Y, resulting in a negative spread between the two yields. Typically, this spread should be positive when investors and traders anticipate better prospects for the United States. However, when pessimism prevails, the spread goes negative. Since mid-2022, the spread has consistently remained inverted.
The Changing Yield Curve Signals Market Uncertainty
Introduction
The Evolving Spread
Over the past months, the spread between 2-year and 10-year yields has experienced a notable inversion. Initially around 16 basis points, it has now increased to approximately 40 basis points. However, this is still significantly lower than the 100 basis points observed during the summer when more Federal Reserve hikes were anticipated. As a result, the market is hoping for a best-case scenario of a soft landing, but uncertainty lingers about whether this will remain the case or transition into a more severe hard landing.
Factors Influencing Treasury Rates
The decline in Treasury rates on Tuesday was primarily driven by long-term yields. Investors were assessing a range of U.S. data including job openings, which hit a 28-month low of 8.7 million in October. Additionally, an ISM reading on the services sector indicated improvement in November. These factors played a role alongside movements in U.S. stocks, which mostly saw declines in DJIA SPX COMP.
Headwinds from Europe and U.S. Bond Market
Tom Graff, chief investment officer at Baltimore-based Facet, believes that Tuesday’s market activity reflects a combination of headwinds facing Europe and a potential rate cut by the ECB in 2024. Furthermore, he suggests that the U.S. bond market is experiencing a decrease in term premium. Recent concerns in the market have shifted from inflation to worries about ongoing slowing economic data, as highlighted by jobs and manufacturing reports. While the consensus seems to be leaning towards a soft landing, the upcoming jobs data will play a significant role in determining the trajectory of the market.
Conclusion
As the yield curve continues to fluctuate and uncertainty persists, all eyes are now on the jobs data due to be released on Friday. While a soft landing remains the prevailing consensus, there is growing concern about the potential for a hard landing. The market eagerly awaits further evidence to clarify the direction in which the economy is heading.
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