As the Federal Reserve strives to achieve a soft landing for the economy, it is likely to cut interest rates by a total of 100 basis points this year. This has significantly boosted U.S. Treasury bonds, which are on track to record their longest monthly winning streak in 14 years.
According to the Bloomberg U.S. Treasury Total Return Index, U.S. Treasuries have provided investors with a 1.2% return so far in September, marking the fifth consecutive month of gains, the longest streak since 2010. The index has been rising since the end of April, with gains of 3.8% this year and nearly 10% over the past 12 months.
AXA Investment Managers' Chief Investment Officer Chris Iggo and Chief Economist Gilles Moec noted that bond markets have delivered strong returns due to positive shifts in central bank rate expectations.
The rally in the bond market is attributed to the highly anticipated rate-cutting cycle by the Federal Reserve. In recent months, traders and officials have been scrutinizing economic data to determine the timing and extent of reducing borrowing costs from the highest levels in about 20 years.
Last week, the Federal Reserve cut rates by 50 basis points, fulfilling its promise and anticipating further similar cuts within the year. This has heightened traders' expectations for additional rate reductions.
The yield on the two-year Treasury, which is most sensitive to Fed policy, has plummeted 147 basis points from its peak of 5.04% at the end of April to 3.57%. The 10-year Treasury yield has also dropped about 95 basis points since April, falling to 3.75% last Friday, nearing 2024 lows.
This shift has helped an important segment of the yield curve return to normal in September, with the two-year Treasury yield dropping below the 10-year yield. Traders have placed significant bets on this month's substantial rate cuts. Last week, the steepness of the yield curve hit its highest level since mid-2022.
Despite these developments, uncertainty remains regarding the scale of future Fed rate cuts, and the current rally in Treasuries is facing the challenge of potentially overcrowded bullish positions.
AXA's Iggo and Moec cautioned that given current market pricing aligns with what most observers consider the terminal rate for this cycle, the gains in fixed-income assets will likely moderate by year-end.
Citigroup strategist Edward Acton also mentioned that month-end and quarter-end pressures, along with the looming U.S. election, have increased portfolio managers' anxiety, highlighting the risk of trading volatility. Additionally, New York Fed researchers noted that the last day of each month has become the busiest trading period for Treasuries.
As the calendar shifts from September to October, several key risk events will test global financial markets in the coming week.
Federal Reserve Chair will discuss the U.S. economic outlook at the National Association for Business Economics meeting on Monday (EST). His remarks will likely cover current monetary policy, which investors should closely monitor.
This Friday's September non-farm payroll report will be a focal point for traders. Ahead of this data release, the market will also see key labor market indicators, including the latest U.S. job openings data, the ADP report, and the ISM manufacturing and services employment indices.
