US 10-year Treasury yields hit a fresh 10-month intra-day peak on 10 January, jolted by a Bloomberg report that China was considering slowing or even halting its purchases of US Treasuries. The rise in yields has prompted high-profile bond investors to call an end to the 25-year bond bull market.
We do not think the recent moves mark a major change in bond market dynamics:
• China policy concerns are overstated. In order of importance, China’s reserve management goals are safety, liquidity and yield; Treasuries remain the best vehicle to achieve all three. With nearly USD 1.2tn in holdings, China would incur significant losses selling down its portfolio. The timing of the news, as the US mulls trade tariffs targeting China, suggests the report may be saber rattling.
• Inflation expectations should moderate. The rise in yields over the past six months has been primarily driven by breakevens (+30bps) rather than real yields (–10bps). With US shale set to lift US oil production above 10m/bpd, we think oil prices are more likely to fall than rise in the months ahead. This should moderate inflation expectations and stabilize yields.
• There is little change in Fed policy. While we are closely monitoring US Federal Reserve policy, the central bank doesn't appear to have made any major changes in its approach, with two or three rate hikes this year and an expected terminal rate of around 2.75–3% likely. Provided this remains the case, the upside for US 10-year yields looks relatively limited.
Fears of a major bond market sell-off look overblown at this stage.
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