How does the Federal Reserve intend to meet its $816 billion obligations in Q1? The Treasury plans to sell $348 billion in coupons and the remaining 58% in bills. The Treasury, mandated to secure the most cost-effective funding, has been advised against longer maturities due to concerns about the escalating deficit. Relying heavily on short-term funding is akin to utilizing an overdraft facility. Moreover, a substantial share of bills can be stimulative for the economy, potentially complicating the ongoing battle against inflation.
The United States is navigating a rare confluence of a record-low unemployment rate and elevated fiscal deficit figures. This situation places the Federal Reserve and the Treasury at odds, with the former working to control inflation while the latter seeks to maintain sound fiscal positioning.
In the UK, the Bank of England opted to maintain interest rates at the status quo and signaled potential increases in the future, responding to the persistently higher inflation.
The recent Federal Open Market Committee (FOMC) meeting conveyed a positive outlook on growth, noting that the recent upswing in long-term treasury yields contributed to achieving tightening objectives. Furthermore, upward revisions to recent economic indicators pushed treasury yields lower and propelled equity markets to their best gains in 52 weeks.
European bond yields experienced a broad decline amid expectations that major central banks have concluded their monetary policy tightening cycles. The yield on the 10-year German sovereign bond reached its lowest levels in more than two months.
The Bank of Japan maintained its ultra-loose monetary policy, relaxing its Yield Curve Control (YCC) approach to allow rates to rise more freely. Following the announcement, Japanese Government Bonds (JGBs) rose to 0.91%, the highest level in a decade. In response to economic challenges, Japan's government unveiled a new fiscal stimulus package exceeding USD 110 billion, aimed at fostering growth and alleviating household burdens in the face of a rising cost of living.
China's Purchasing Managers' Index (PMI) numbers slipped below 50 after an extended period. Additionally, the S&P Global survey of manufacturing activity fell to 49.5 in October, below forecasts. The real estate market is experiencing a severe downturn, reflected in the first-ever decline in real estate loans made this year, totaling RMB 100 billion less than the previous year.
The rally in US equities was predominantly fueled by weaker-than-expected macroeconomic indicators, including lower PMI, a higher unemployment rate, and a cooling job market. This situation makes a compelling case for the Federal Reserve to refrain from further tightening, potentially leading to improved valuations.
While the Federal Reserve has effectively controlled inflation in many sectors of the economy, concerns linger regarding the potential impact of rate hikes on the labor market. Rising unemployment rates, weaker Non-Farm Payroll (NFP) numbers, and a declining forecast for job growth in the coming months raise uncertainties. If the labor market weakens more than anticipated, it could significantly impact GDP figures.
Short versus long end bond vol: The short end has lately calmed given the broader understanding of Fed's stance on the rate trajectory, but the long end has been surprisingly the more volatile end given the mixed sentiment numbers from US macro standpoint.
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