Treasuries Rally Reflects Visions of a Rockier Path to Recovery

By Emily BarrettJuly 11, 2020

  •  Benchmark yields touch new lows as covid-19 infections climb
  •  Inflation data unlikely to lift morale as growth worries mount
Treatment of a patient in the Covid-19 ICU at the United Memorial Medical Center in Houston, Texas, on June 29.
Treatment of a patient in the Covid-19 ICU at the United Memorial Medical Center in Houston, Texas, on June 29. Photographer: Go Nakamura/Bloomberg

The grim tallies of new coronavirus cases have given investors a glimpse of a bleaker world in the second half of the year, and a reminder of the haven appeal of government bonds.

Investors rushed into the safest assets as news on the pandemic worsened during the past week. The fiercest moves have dissipated, but not before long-dated yields in the U.S. had touched multi-month lows, crushing the curve flatter. The five-year rate fell to a new record below 0.26%, as did both the two- and five-year maturities in the U.K.

Treasuries have remained well bid in recent weeks even as stocks have climbed. Bond investors have kept their focus on the path of the pandemic, with fatalities climbing to new highs in Florida, Texas and California, and countries including Italy and Australia reinstating travel restrictions. That defensive bias was most evident Thursday, when investors piled into the Treasury’s 30-year auction, seizing an opportunity to add duration.

“The market is finally reacting to the growing infections,” said Priya Misra, head of global rates strategy at TD Securities. “That’s why rates are falling, led by the long end,” she said. “It’s the only hedge if risk assets are vulnerable.”

Yield on 30-year bonds falls amid demand for havens

U.S. stocks extended their gains heading into a week of earnings reports from banks — which should at least show healthy trading revenues — on optimism about the prospects for an effective treatment for Covid-19 patients. But until the market has more clarity on these points, the latest setbacks in the economic reopening and blow to confidence may overshadow any better-than-expected data.

The 10-year Treasury yield on Friday fell as low as 0.57%, a level unseen since late April, before rebounding to end the week around 0.64%. The 30-year rate, meanwhile, plunged as low as 1.24% at one point, close to 20 basis points below where it began the week. The yield curve between 5- and 30-year securities dipped below 100 basis points before rebounding slightly, though it’s still close its flattest level since May.

Next week’s U.S. economic calendar is heavy with inflation data, which are unlikely to do much to inspire morale. The data are predicted to show consumer prices rose 0.5% in the month of June and while that’s a sizeable jump, it’s coming from the bottom of a pretty deep hole.

“There’s not an economist in the Fed or Street that thinks that this is an inflationary event,” said Subadra Rajappa, head of U.S. rates strategy at Societe Generale.

She says the recent rise in market expectations for inflation, reflected in breakeven rates, is premature and understating the continued challenges to the recovery. She sees a risk of a reversal if Tuesday’s consumer prices number is lower than forecast. That’s a worrying prospect for investors who’ve piled into inflation-linked markets on the basis of a stronger-than-expected recovery, and chasing last quarter’s record-beating outperformance.

“Any time you see inflows into TIPS like this, it tends to be mostly from speculators,” Rajappa said. “If one leaves the rest will panic and follow.”

What to Watch

  • Earnings for the biggest U.S. banks are likely to be a key focus for market news in the coming week, with JPMorgan Chase & Co. and Bank of America Corp. among those providing updates
  • The economic calendar:
    • July 13: Monthly budget statement
    • July 14: NFIB small business optimism; consumer price indexes; real average earnings
    • July 15: MBA mortgage applications; import and export price indexes; Empire manufacturing gauge; capacity utilization; industrial production; Fed Beige Book
    • July 16: Retail sales; Philadelphia Fed business outlook; weekly jobless claims; Bloomberg consumer comfort index; business inventories; NAHB housing market index; Treasury International Capital flows
    • July 17: Building permits; housing starts; University of Michigan sentiment report
  • The Fed calendar:
    • July 13: The New York Fed’s John Williams discusses Libor at an event jointly hosted by the Bank of England; Dallas Fed’s Robert Kaplan speaks at a separate event
    • July 14: Governor Lael Brainard and the St. Louis Fed’s James Bullard speak about the economy
    • July 15: Philadelphia Fed’s Patrick Harker on economic outlook; New York Fed’s Lorie Logan addresses SIFMA event
    • July 16: Chicago Fed’s Charles Evans; Williams
  • The Treasury auction calendar includes:
    • July 13: 13-, 26-week bills
    • July 14: 52-week bills
    • July 16: 4-, 8-week bills

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