Rates Spark: Push And Pull Galore

While US long rates are rising with some conviction, technical factors are liable to place downward pressure on US front end rates ahead. An ever steeper curve is the outcome, but then again a consolidative phase looks overdue. EUR rates continue to digest the flurry of supply, where we still eye the possibility of further long end deals.  

Overnight: Mr T

Tapering is a focus for FOMC members, and more particularly the timing for reducing the Fed's asset purchases. Bostic sees it starting this year (he also sees the first Fed Fund hike in late 2022 or 2023 but we expect this opinion is not shared by most of his colleagues), as he warns of upside risks to the economy. Kaplan and Barkin struck a less decisive tone but are nonetheless open to the debate happening as soon as the economic recovery takes hold. This mixed messaging was insufficient for bonds to find a base in overnight trading, with the 10Y US Treasury yield now flirting with 1.15% (SPTL, IEF). We see a chance of a rebound but not before this week's supply is out of the way (see next section).

The US curve trades with impressive conviction

The break above 1% for the US has been convincing, in the sense that there has been no looking back. The touch of 1.15% marks another key level. Our end-Q1 target of 1.25% is already looking within reach. We still think that there will be a consolidative phase first. We note that the structure of the US curve is still not one that we could consider as marking a bear market for bonds.

With the 5yr still quite rich to the curve, the structure is more akin to a benign uplift in long dated rates. It's also a heavy lift, as all of the steepening is coming from the back end. The front end continues cosy up to the effective fed funds rate.

In addition, there are technical factors in play that will likely place downward pressure on front end rates in the early months of 2021. Until a new stimulus is actually in place and needs financing, the dominant impact will come from the US Treasury spending the cash that sits with the Federal Reserve. As this makes its way into the system, downward pressure on ultra-front end rates will be the consequence.

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