US and UK Short-Term Yields: Retracement ExpectedUS and UK Short-Term Yields: Retracement Expected Resume * Following weak CPI data, US and UK short-term yields have declined, reaching new lows. * However, yields are unlikely to fall further before key events such as the Federal Reserve meeting and Bank of England rate announcement. Market Implications * Close out bullish positions before upcoming events. * Buy US and UK short ends on price declines, but expect higher levels. US Yields * After rising earlier this year, US short-term yields have declined, ranging between ~4.6% and ~5.0% since April. * This downward momentum is expected to pause before the FOMC meeting and US jobs report. * Technical indicators and positioning suggest higher yield retracement. UK Yields * UK 2-year government bond yield has also declined, reaching a year-to-date low. * Further declines are unlikely before the BoE rate announcement on August 1. * Offset risks and wait for better levels before positioning for lower UK rates. Author Richard Jones, Macro Hive
Resume
- Following weaker than expected US CPI last week, the 2-year US Treasury yield broke through the ~4.6% floor that has been in place since early April. The yield remains below this level, having touched ~4.4% this week.
- Similarly, the UK 2-year yield has been trading lower over the past few months, gaining momentum over the past week and printing a marginal new year-to-date (YTD) low below 4% yesterday.
- US and UK short-term yields are unlikely to fall further in the coming week. There is little reason for a decline until the next Federal Reserve (Fed) meeting (July 31), the Bank of England (BoE) rate announcement (August 1) and the US jobs report (August 2).
Market implications
- Therefore, we prefer to liquidate all remaining bullish positions before the risks of the upcoming events.
- We still want to buy US and UK short ends on price declines but expect to be able to reach a higher level.
US yields lose downward momentum (for now)
On April 11, when the US 2-year yield was very close to 5%, we argued that US yields, especially the short end, seemed stretched to the upside. We wanted to mitigate the rise by scaling out a received position in the short end.
We reiterated our buy-on-price-dips approach on May 17, while also highlighting the ~4.6%/~5.0% range in US 2-year yields. We correctly expected US rates markets to remain rangebound, with a downward bias in yields.
Chart 1: 2-year US Treasury yield = orange line
Square up and wait for better levels to restore long positions
After we advocated reducing long positions, the US 2-year yield has fallen again, trading at a low of ~4.4% this past week
This is the lowest level since the first week of March.
Bilal Hafeez wrote this week about the importance of ‘event days’ for the US interest rate market.
While we get US PCE on July 26, recent CPI and PPI releases last week provide few surprises in US yields versus next week’s PCE.
The next major events for the US interest rate market are likely to be the FOMC rate decision on July 31 and the US jobs report two days later.
Until then, we expect US rates to rise as there are no event-driven headwinds.
Technicals and positioning suggest higher yield retracement
We believe US yields will rise given market positioning and technicals.
The RSI value for the US two-year Treasury bond (TU) futures is now above 70, meaning that the TU futures are now ‘overbought’.
Moreover, the long position in TU with real money is extreme.
Combined with the lack of event risk, this positioning and technical background prompts us to take stock and wait for better levels to re-enter long positions.
UK yields have also lost their downward momentum (for now)
On 10 May 2024, we stated that the UK 2-year government bond yield could fall to 4%. On 14 June, we reiterated this.
Chart 4: 2-year UK government bond yield = orange line
UK short-term rates have been on a bumpy decline this year (Chart 4). Nevertheless, the 2-year UK government bond yield hit a year-to-date low this week.
Given the lack of ‘event days’ before the BoE’s next rate announcement on August 1, and the likelihood of US rates rising next week, further declines in UK short-term rates are limited in the near term.
As with the US short-end, we are offsetting all risks and waiting for better levels before positioning for lower UK rates.
Richard Jones writes about FX and interest rates markets for Macro Hive. He has spent three decades trading and investing in interest rate and FX market portfolios, both on the buy and sell side.
(The commentary in the above article does not constitute an offer or solicitation, or a recommendation to implement or liquidate an investment or to enter into any other transaction. It should not be used as the basis for any investment or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)
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