As we enter the first week of June and looking at the US Treasury market, it’s hard not to think of the old stock market adage ‘Sell in May and go away’. This morning the ten-year is trading at a yield of 2.08%, that’s 52bp lower than just six weeks ago. So does that mean the economic environment has changed dramatically or that the market was wrong to push yields up to the elevated levels of last year?
From our point of view, the market did get to oversold levels which permitted us to push up duration across our portfolios earlier in the year, but at the same time, the environment has deteriorated with the outlook clearly calling for the Fed to take the necessary steps to add support. That support could be in the form of rate cuts or indeed adding back liquidity that they have been draining via their balance sheet management. We have long thought that the Fed was over tightening between their rate hikes and the balance sheet shrinkage and that the economy was not on a stable enough platform to withstand any shocks that may come along, such as Donald Trump.
Last night Fed member Bullard, a voting member, who obviously is in the camp of rate cuts said ‘it may be appropriate for the Fed to cut the funds rate soon to boost inflation’ adding ‘if we ease now, we could help re-centre inflation expectations’ and ‘it could also provide some insurance’ against global risks. The global risks, we believe he is referring too, are the ongoing trade frictions as he added; ‘the uncertainty around tariffs could potentially slow the US economy’.
The market is way ahead of Mr Bullard, as it has now moved to price in a rate cut this July 31st at 61.4% and by September 18th at 92%, that’s the two Fed meetings after their June gathering on the 19th which is priced at just a 22.9% chance of a cut.