Is the Next Storm in U.S. Stocks Brewing in Treasuries? The Coming Week Is Crucial
- Key Takeaway: The sharp rise in U.S. long-term Treasury yields has raised doubts about the Fed's policy credibility, with bond market volatility surging and transmitting pressure to risk assets like equities. Key events in the coming week could intensify market turbulence.
- Key Factors:
- The 30-year Treasury yield hit its highest level since 2007, and the 10-year yield broke out of its trading range that had persisted since late 2023.
- The ICE BofA MOVE index rose to its highest point since May, and the put skew on TLT surged to levels not seen since the 2008 financial crisis, indicating a sharp expansion in hedging demand.
- Last week, the Fed's rate-setting committee showed rare division, with three regional Fed presidents voting in favor of a rate hike, leading to a sharp flattening of the yield curve.
- With inflation running above the 2% policy target for five consecutive years, investors are questioning the Fed's willingness to resume rate hikes, and the probability of a hike has "risen significantly."
- Long-end yields and falling oil prices have diverged, with weakening correlation amplifying market uncertainty.
- Details of the U.S. Treasury's financing plan and the July nonfarm payrolls report are due this week, which could spark a fresh wave of bond market volatility.
- U.S. and Japanese authorities conducted a historic coordinated intervention to stabilize the yen, possibly motivated in part by concerns over renewed turbulence in the Treasury market.
Original Author: Xu Chao
Original Source: Wall Street CN
The U.S. Treasury market is transmitting increasingly intense stress signals to other asset classes, with equities bearing the brunt.
Long-term Treasury yields surged sharply last week, with the 30-year yield hitting its highest level since 2007, and the 10-year yield breaking out of the trading range it had held since late 2023.
Meanwhile, the ICE BofA MOVE index, which measures expected volatility in the Treasury market, rose to its highest level since May. Demand for put options betting on falling bond prices has surged, with Cboe data showing that the one-month put skew tied to the iShares 20+ Year Treasury Bond ETF has soared to its highest level since the 2008 financial crisis.
In the week ahead, with the release of the U.S. Treasury's quarterly financing details and the July nonfarm payrolls report, turbulence in the bond market could intensify further.
Bob Elliott of Unlimited Funds recently wrote in a commentary: "It's hard to tell how much longer other asset markets, like equities, can hold up at current interest rate levels without being dragged lower." Gennadiy Goldberg, head of U.S. rates strategy at TD Securities, also warned that uncertainty surrounding Fed policy guidance, compounded by geopolitical noise and other factors, is making the market increasingly perilous.
Fed Credibility Questioned, Long-End Yields Break Higher
The core driver behind this rise in Treasury yields is growing market skepticism over the Fed's policy credibility.
Since Federal Reserve Chair Kevin Warsh took the helm, he has maintained a hawkish stance on inflation. However, with inflation having remained above the Fed's 2% target for five consecutive years, investors are beginning to doubt whether the Fed truly has the resolve to resume rate hikes.
Last Wednesday, the Fed's rate-setting committee showed a rare split—three regional Fed presidents voted in favor of a rate hike, diverging from the majority stance. When Warsh concluded his press conference last week, long-end yields suddenly jumped while short-end yields moved lower, sharply compressing the spread between the two. According to Dow Jones Market Data, this was the largest "Fed decision day" yield curve compression since 2023.
Goldberg of TD Securities remarked: "The market is questioning just how committed the Fed really is to controlling inflation." He also noted that while the base case remains no rate hikes over the next two years, the probability of a hike has "risen significantly."
Bond Volatility Climbs, Hedging Demand Surges
The yield moves quickly transmitted to the derivatives market, with hedging demand rising sharply.
The ICE BofA MOVE index hit its highest level since May, indicating that traders are actively hedging against the risk of further upside in rates.
At the same time, the volume of put options tied to the iShares 20+ Year Treasury Bond ETF (TLT) has risen notably relative to call options. Cboe analysts noted that the one-month TLT put skew has surged to its highest level since the 2008 financial crisis.
Particularly noteworthy is the divergence between long-end yields and oil prices in this cycle—oil prices have fallen rather than rising in tandem with yields, further weakening the correlation between the two and amplifying market uncertainty.
Spillover Effects Emerge, Equities Face Rising Pressure
Turmoil in the Treasury market has historically been a precursor to equity market risk, and the current situation is no exception, leaving equity investors on edge.
Bob Elliott pointed out in his commentary that whenever Treasury yields approach or reach current levels, pressure tends to spill over into other markets, with equities being the first to feel the drag. The 30-year yield currently stands at 5.239%, and the 10-year yield is at 4.693%, both in historically elevated territory.
Goldberg also acknowledged that geopolitical uncertainty stemming from the Iran situation, ambiguity in Fed policy guidance, and a host of other market noise are converging to create a fragile market environment. "All kinds of uncertainties are intertwined," he said.
Multiple Event Windows Ahead, a Crucial Week of Tests
The coming week will be a critical window for determining whether this Treasury market stress spreads further.
Later this week, the U.S. Treasury will release the latest details of its government financing plan, and any surprises could trigger a fresh bout of bond market volatility. A slate of key economic data will also be released this week, culminating in Friday's July nonfarm payrolls report, which will carry significant weight for market expectations regarding the Fed's policy path.
Separately, the U.S. Treasury and the Federal Reserve, in coordination with Japanese authorities, conducted a historic coordinated intervention last week to stabilize the steadily weakening yen. Analysts believe that U.S. participation in the intervention was partly motivated by a desire to prevent another outbreak of volatility in the Treasury market.
The $30 trillion U.S. Treasury market is the cornerstone of the global financial system—serving as the core collateral for short-term institutional liquidity and as the benchmark pricing anchor for trillions of dollars in debt worldwide. Once this "sleeping giant" begins to stir persistently, the tremors will extend far beyond the bond market itself.
