Tech Boom Bond Bust
Nvidia (NVDA) delivered strong results, overshadowing a series of hawkish Federal Reserve speeches and the release of the FOMC January 30-31 meeting minutes. This led to a 10 basis point increase in yields across the Treasury curve by Thursday’s close, bringing the total move from late December lows on 10-year Treasury yields to over 50 basis points.
Most of the new issuances were in the form of bills, but the two coupon auctions for 20-year nominals and 30-year Treasury Inflation-Protected Securities (TIPS) were poorly received. Looking ahead, there will be $63 billion of 2-year notes, up from $60 billion last month, $64 billion of 5-year notes, up from $61 billion in January, and $42 billion of 7-year notes, compared to last month’s $41 billion auction. With net coupon issuance expected to increase by more than $500 billion in the coming months, and California’s revenue shortfall potentially indicating a second consecutive federal government tax season shortfall, it is likely that the Treasury market needs to further adjust to absorb the growing supply.
Furthermore, with the Federal Reserve delaying rate cuts, the strength of the dollar implies that the foreign buying of US Treasuries in December is unlikely to continue. The gradual increase in rates and the narrowing of the 2-year and 10-year real rate curve is not sufficient to trigger a risk-off episode across asset classes. Bear steepening of the real curve is generally not favorable for risky assets. However, for negative bond returns to impact other asset classes, rates would need to accelerate and reach at least 4.5% for 10-year yields and 2.25% for TIPS.
For investors, particularly those invested in the technology and related sectors such as the Gen AI theme, or in manufacturing renaissance or energy sector consolidation themes, the delay in easing policy from March to June may not be significant. However, fixed income investors will be affected by the timing, as seen in the widening of the spread of mortgage-backed securities and the increase in fixed income implied volatility. As a result, financials, especially smaller spread-sensitive regional banks, as well as rate-sensitive utility and real estate sectors, are likely to continue underperforming.
This week’s focus is on Vice Chair Jefferson’s discussion of easing cycles, along with a preview of next week’s data and an updated asset and sector allocation outlook.
(Figure 1: The steepening of the near-term forward spread partially reflects a reassessment of the terminal policy rate. Two weeks ago, in The Wrong Price, we discussed our view that the FOMC’s longer-run policy rate forecast was too low. The 3-month/10-year curve needs to disinvert in order to reopen the bank credit channel.)
