Surge in Treasury Yields
If the latest rumblings in bond markets have not caught your attention, it might come as a shock that the 10-year Treasury yields have rallied to 4.1%, up from 3.9% just a week prior. Correspondingly, mortgage rates have ascended above 7%, a steep climb from their recent low of 6.6%.
What catalysts are driving this sharp upswing?
Economy’s Unpredicted Strength
In essence, almost all the fresh economic data in 2024 has delivered surprising robustness. This is evidently reflected in Citi’s Economic Surprise Index, which gauges the disparity between actual economic performance and its projections. The Index has lately taken a markedly positive turn.
An Array of Strong Economic Indicators
Since mid-January, a string of economic indicators have surpassed expectations:
In every respect, the recent vigor in the U.S. economy is striking.
Decline in March Rate Cut Likelihood
Amid lingering deflation, markets had escalated the probability of a March rate cut to around 90%. However, as each successive robust data point emerged, these expectations gradually tempered. Moreover, following the January 31 Federal Reserve meeting, Chair Powell doused hopes of a March rate cut, intimating that it was not the “base case.” In a subsequent interview on 60 Minutes, he reiterated that a March cut was improbable. Consequently, the odds of a March rate cut have nosedived to 20%. Simultaneously, the markets have transitioned from anticipating 160 basis points in rate cuts this year to 125 basis points. Consequently, longer-term bond yields have surged in response.
Return to “Higher for Longer” Bond Yields
Collectively, the robust economic data portends a return to higher bond yields for an extended period.
Potential Impact of Inflation
Recall from last week, we discussed the unusually high “real” interest rate, which continued to ascend despite the Fed’s inaction due to a persistent decline in inflation. Awaiting us in a week’s time is the January Consumer Price Index. It will provide us with insights into whether inflation remains on track towards the Fed’s 2% objective or if the upheaval in the Middle East begins to impinge on transportation costs and import prices.
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