The 10-year US Treasury bond interest rate on the repurchase market plummeted to minus -4% this week, which is very rare. This means that investors are actually paying the cost of borrowing 10-year bonds, and the opposite is usually the case.
Crowded short betting
However, these bets have triggered a strong demand for 10-year US Treasury bonds that can be shorted in the repo market.
Scott Skyrm, executive vice president of fixed income and repurchase business at Curvature Securities, said: “The turbulence is the turbulence in the bond market caused by people’s readjustment of their views on the economy.”
The 10-year U.S. Treasury bond interest rate soared to 1.6% last week, far higher than the low of about 0.3% in March last year.
“Cat and Mouse Game”
Wall Street is essentially testing the Fed, trying to see how high the central bank will allow interest rates to rise before it intervenes.
Mark Cabana, head of interest rate strategy at Bank of America, said: “This is a cat and mouse game.” “The market is challenging the Fed. The Fed is a bit coerced, basically telling the market,’Go solve this problem.’ .”
But the Fed does not want to harm the economic recovery or frighten Wall Street.
If interest rates rise sharply, this will increase the cost of everything from mortgages and car loans to junk bonds.
Cabana said: “It will reach a turning point that will have a negative impact on financial markets.”
However, higher interest rates also indicate that after more than a decade of slow growth and low inflation, the US economy has finally returned to normal.
Dudley said that the 1.6% interest rate on US Treasury bonds is “not a big deal”, and it is expected that the yield will eventually climb to between 3% and 4% or even higher.
Dudley, who previously served as a senior economist at Goldman Sachs, said: “The bond market now has some unrealistic expectations of the Fed. They certainly want the Fed to stop this.” “And I think the Fed’s view. Yes, no. We will not prevent this. This is normal. This is what happens when the economy looks like it will truly recover.”
Cabana said Dudley has always respected him since he was working with the NY Fed, and he may have taken too many academic methods.
Cabana said: “In terms of stimulating economic growth and achieving full employment, the biggest risk the Fed is trying to achieve is that US interest rates are too high.” “That would tip Apple.”
Federal Reserve Hotel California Issue
The Fed may wish to adopt a laissez-faire approach this time as it tries to gradually exit the crisis mode.
However, Cabana believes that this will not happen, partly because the pandemic has caused a huge federal budget deficit and has made efforts to revitalize the economy.
Cabana said: “The Fed will have to increase its influence in the market. This is how it ends.”
All of these highlight the difficulty of the Fed’s easing of emergency policies.
Cabana said: “This is the Fed’s problem in California.” “You can check out, but you can never leave.”