The Economy and Bond Market
U.S. Treasuries fell significantly this week, sending the 10-year note yields to the highest level in almost two years. This comes after the stronger-than-forecast employment report fueled speculation that the American economy is growing fast enough for the Fed to begin tapering its asset purchases as early as September. On Friday, treasuries had the biggest intraday losses since August 2011 as the Labor Departmentâs non-farm payroll (NFP) report shows the economy added 195,000 jobs in June. This beat analystsâ forecast of 165,000 jobs. Moreover, the Labor Departmentâs revisions to the prior two monthsâ NFP reports added a total of 70,000 jobs to the employment count in April and May.
Strengths
- Orders placed with U.S. factories rose 2.1 percent in May, reflecting stronger vehicle sales and gains in residential construction. The gain in bookings followed a revised 1.3 percent advance the prior month.
- The U.S. ISM manufacturing index rose to 50.9 from 49.0 in June, beating analystsâ forecast of 50.5.
- Portuguese bonds pared a seventh-weekly decline after Prime Minister Passos Coelho held meetings with the opposition to shore up support for the government. Portugalâs 10-year yield dropped 15 basis points to 7.12 percent.
Weaknesses
- Treasuries lost 3.2 percent in May and June, their worst two-month performance since the first two months of 2009 when they lost 3.6 percent, Bank of America Merrill Lynch indexes show.
- The unemployment rate for June remained at 7.6 percent compared with the Bloomberg News survey of economists forecast of 7.5 percent.
- The trade deficit in the U.S. unexpectedly widened in May as imports climbed to the second-highest level on record, while exports stagnated, reflecting slack global growth.
Opportunity
- European Central Bank President Mario Draghi and Bank of England Governor Mark Carney both signaled Thursday that they will keep borrowing costs at record lows for an extended period.
- China will resume trading of Chinese government bond futures for the first time in 18 years to provide investors with a hedging tool and also to help boost the fixed-income market.
- The stronger-than-expected June employment data should not have elicited such a big rates sell-off, according Nomura. The note to clients considers the rise in yield as another tactical buying opportunity into the summer months ahead.
Threat
- Inflation in emerging markets such as Brazil, Turkey and India is getting the attention of policy makers and may be an early indicator for the rest of the world.
- Trade and/or currency âwarsâ cannot be ruled out which may cause unintended consequences and volatility in the financial markets.
- The recent bond market sell off may be a âshot across the bowâ as the markets reassess the changing macro dynamics.
