US Rates: Progress to taper, but not substantial enough


Another baby step to taper.
Eugene Leow29 Jul 2021
    Photo credit: Unsplash Photo


    Overnight, the US Federal Reserve’s Open Market Committee took another small step towards taper. The FOMC statement noted that the economy has “made progress towards these goals (maximum employment and price stability)” and Fed Chair Powell indicated that officials had taken a “deep dive” on how to go about scaling back bond buying but no concrete decision has been made. It is interesting to note that Powell does not seem to place as much weight on the impact of the current US COVID-19 wave on US economic growth. Meanwhile, inflation is still viewed to be largely transitory. Operationally, two standing repo facilities (domestic and foreign) have been established to backstop money markets during times of acute liquidity stress. 

    The overall reaction in the US Treasuries space was muted. While there was progress towards taper, the timeline has not been brought forward. The Fed probably needs another 1-2 strong payroll reports before achieving substantial progress on the labour market. We still see actual taper to begin in end-2021 / early 2022. 10Y yields initially rose to 1.27% before closing about unchanged. That said, the market is not as confident that inflation will stay anchored. 10Y breakeven crept up 4bps to close above 2.40% for the first time since early June. Right now, the market has undone the hawkish Fed pivot at June’s FOMC meeting, taking breakevens higher and real rates lower

    We think that challenges on global growth due to the Delta variant could keep term premium suppressed, anchoring US yields in the short term. These fears could dissipate as vaccinations pick up in the coming months, allowing 10Y yields to head back above 1.50%. A slowdown in the Chinese economy, exacerbated by the ongoing regulatory crackdown is another fresh risk to watch, keeping investors somewhat cautious. Lastly, on a positive note, there has been some progress on the bipartisan USD 550bn infrastructure plan, with a Senate vote possible as soon as the weekend.

    Eugene Leow

    Rates Strategist - G3 & Asia
    eugeneleow@dbs.com
     

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