US this week has been contained and very welcome for Treasuries. It absolutely eases higher rates pressure. But that pressure is far from gone. Real yields are higher and will likely remain so. The fiscal numbers are slipping. And keep a close eye on the yen and how it’s dealt with in the coming weeks and months, as Treasuries can be impacted.
Real yields in the US remain high and with fiscal numbers slipping there could be negative feedback into Treasuries if more intervention to support the yen is entertained.
A link between yen pressure and Treasuries pressure is there. It may be nothing, but then again.
There is a clear impulse running from the recent Japanese yen intervention saga to interest rate markets. We assert that prior JPY weakness is a manifestation of tension stemming from an uber-cautious Bank of Japan and a policy rate that remains too low. On our updated calculations, the Japanese policy rate today is some 50bp below neutrality as measured from our estimate of the interest rate buffer vis-à-vis the Federal Reserve. See more on the formulations here. The tension stemming from this is reflected in a super weak yen and very elevated long-dated Japanese government bond yields, with the 30yr yield in the 4% area. This tension can be eased through rate hikes, and the sooner, the better. While that could be construed as negative for the economy, it’s also a choice. Prioritise the protection of the yen, or not? That’s the first impulse.
The second impulse revolves around the recent intervention that saw Japan and the US engage in co-ordinated action to strengthen the yen. It’s quite probable, behind the scenes, that Treasury Secretary Bessent voiced an expectation that the Bank of Japan tightens policy as a support to the intervention. On top of that, the Treasury Secretary chose to sell euros to buy the yen, which is unusual, as typically the trade would have been to sell the US dollar, not the euro. While there has been no clear rationale offered for this, it is quite possible that the Treasury Secretary simply preferred not to engage in a trade that would manifest in the selling of US Treasuries; whether through the intervention process, or in the wider marketplace. Again, no clear messaging that this was the case. But it could be inferred as possible.
Ahead, we need to keep a close eye on these circumstances. It seems that the yen is intent on testing 160 versus the US dollar again, as it continues to creep in that direction. And why not, as the prior tension has not magically disappeared. Timing is uncertain, and there would be a heightened expectation that such a test would be met with official resistance again. Important to monitor whether and to what extent there is a negative feedback loop into US Treasuries as further intervention is entertained. If the US Treasury were again to sell euros, could the European Central Bank, for example, choose to balance the trade by selling US dollars, and by extension, US Treasuries? While it would typically be short-dated sales, the impulse can be felt right out the curve.
On top of all that, the July US fiscal numbers were not great (see more here), and can independently pressure Treasuries. Meanwhile, the ratchet higher in longer-dated real yields since February is a feature that we’re not expecting to see unwound any time soon. And the 0.5bp tail on Wednesday’s 30yr Treasury auction is untimely, despite its concessional pricing. Lots of themes swirling around here, and mostly laced with negative pressure. On a more constructive note, the latest US has reduced the tension for higher US rates. A September Fed hike is no longer discounted. That should not stop the Bank of Japan from doing the right thing. In fact, it would help a hike to stand out, which would help. Still a month away though.
Friday’s Events and Market View
With this week, markets have passed the first set of data tests for their Fed assessment. Until we get to the next jobs and inflation data ahead of the September , other data are likely to play only a secondary role. The US releases this Friday are the July numbers as well as the University of Michigan index. The Fed’s Goolsbee is scheduled for a TV appearance. Out of the eurozone we will get the second Q2 reading as well as June’s trade balance.
There is no sovereign bond supply scheduled for the day, but on the ratings front, Fitch has pencilled in a possible review of the UK’s AA-/Stable rating and Moody’s will look at Austria’s Aa1/Negative rating.
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