The economic data calendar for the world’s largest economy is relatively light this week, which is a welcome respite from last week’s packed schedule.
However, the focus remains on Treasuries. Two Mondays ago, U.S. 10-year yields crossed the 5% mark for the first time since the Lehman Brothers crisis. Since then, they have retreated and are now trading below 4.60%.
This dramatic reversal can be attributed to a series of events that favored the bond markets. It all started with the November refunding announcement and culminated with a weaker than expected payrolls report, which fueled a bond rally.
By mid-October, it seemed almost inevitable that Treasury bonds were headed for an unprecedented third consecutive annual loss. However, the situation has evolved, and now it’s uncertain whether bonds will be able to break even in 2023.
The largest Treasury ETF is having its second-best week in 2023. It’s worth noting that we’re approaching the one-year anniversary of a remarkable rally that coincided with the October 2022 CPI report.
The prevailing market sentiment is that the Fed has completed its tightening cycle, and there’s potential for last week’s bond market rally to gain momentum. However, it’s important to keep in mind that there is a kiloton of Treasury debt to be auctioned off, making this week’s auctions the focus of attention.
While the U.S. bond market is definitely showing signs of moving out of selling the news and buying the facts, for this “everything rally” to extend, it may depend on the initial market reaction or a bullish bond bid-to-cover ratio to the actual auction results.
However, the sudden and significant drop in 10-year yields over the past week suggests that buyers may now struggle to price fair value as bonds are rich relative to recent levels. As a result, equity markets may go into a wait-and-see mode before taking the next leap of faith if the auction shows that bond buyers are indeed returning.
The notable decline in long-term interest rates was seen as a mega-relief for the beleaguered equity markets, with dividend-heavy and long-duration stocks benefiting the most. After suffering a 10% correction over the past three months, the S&P 500 bounced back a robust 6% last week, and while we may only be scratching the surface, it appears that investors are coming up for air ahead of this week’s auction results.
Despite some odd recession calls, the onslaught of economic data wasn’t particularly shocking and doesn’t suggest that the Fed is in any hurry to cut rates. However, the trend has been consistently on the soft side of expectations. Friday’s employment report for October may have been the perfect elixir for a market that needed to shake off a two-month stock market hangover. While I will avoid the cliché of calling it “Goldilocks” as the overuse is becoming tiresome, it did strike a balance.
