The contention is that once the Federal Reserve embarks on rate cuts, it would move more aggressively than investors expect. Once slowing economic growth and tariff fears force the central bank’s hand, the 10-year Treasury rate would fall toward a record low of 1.25% by year-end, wrote Christoph Rieger, head of rates at the bank. Yields fall as bond prices rise.
“Our Fed view with three 25 [basis point] rate cuts by March 2020 is close to what the market is pricing. Once the Fed begins easing, however, the market will not stop there. Following the comments at this week’s Fed conference, it should account for a scenario of more aggressive pre-emptive steps, which looks set to take U.S. Treasury yields to record lows,” Rieger said.
The 10-year Treasury yield TMUBMUSD10Y, -1.68% traded at 2.064% on Monday, on course to establish its lowest finish since September 2017, Tradeweb data show. The benchmark yield hit a record intraday low of 1.35% back in July 2016 after geopolitical uncertainty from the Brexit referendum sent investors diving into the safety of Treasurys and other haven assets.
If Commerzbank’s forecast pans out, the 10-year rate would have to fall an additional 85 basis points in a year when it has already slumped around 60 basis points.
Economists and investors monitor the 10-year yield because a whole host of interest rates for loans such as fixed-rate mortgages hinge on the movements of the long-dated Treasury note.
Rieger said the first cut should take place in the September meeting, followed by a cut in December and another in March.
Calls for the Fed to ease policy heated up on Friday after the official nonfarm payrolls report showed the U.S. economy had added 75,000 jobs in May, falling short of analysts’ estimate for 180,000. The S&P 500SPX, +1.05% and the Dow Jones Industrial Average DJIA, +1.02% are on track for a four-day winning streak amid growing expectations for rate cuts.
Based on remarks by senior Fed policy makers this week, Rieger said the U.S. central bank will initiate rate cuts earlier than previous easing cycles. New York Fed President John Williams said on Thursday the Fed should stand ready to adjust its view of the economic outlook, refusing to rule out a cut as soon as June.
“The absence of inflation pressure allows the Fed to take out insurance against the rising economic risks – and the indications are it will act very resolutely on any prospects of a severe downturn. While this week’s Fed conference made clear that a major framework change will not be enacted quickly, the consensus among officials and academics was that the Fed should act more strongly and much earlier to impress markets,” he said.
Other major investment banks have been busy reassessing their rates forecasts. J.P. Morgan cut its forecast for the 10-year yield to 1.75% by year-end, following President Donald Trump’s threat to impose tariffs on Mexico.
The iShares 20+ Year Treasury Bond ETF (TLT) fell $0.14 (-0.11%) in after-hours trading Friday. Year-to-date, TLT has gained 4.73%, versus a 8.22% rise in the benchmark S&P 500 index during the same period.
TLT currently has an ETF Daily News SMART Grade of B (Buy), and is ranked #16 of 29 ETFs in the Government Bonds ETFs category.
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