Government bonds rally as rate rise fears fade

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US government bonds rallied and Wall Street stock markets were poised to hit further record highs as investors moved further away from expecting the Federal Reserve to swiftly rein in its pandemic-era support for financial markets.

The yield on the benchmark 10-year US Treasury bond, which moves inversely to its price, fell 0.07 percentage points to 1.301 per cent, hitting fresh four-month lows. Germany’s equivalent Bund yield dropped by 0.04 of a percentage point to minus 0.309 per cent, its lowest since early April.

The 10-year Treasury yield approached 1.8 per cent in March, as the price of the debt was depressed by fears that the world’s most influential central bank would respond to a speedy US economic recovery and surging inflation with a rapid round of interest rate increases.

But jitters about the Fed moving to cool an overheating economy have been sidelined by predictions that US GDP growth, which is expected to have reached an annualised rate of at least 9 per cent in the second quarter of 2021, is about to peak.

“Bond markets are expressing a view that we are approaching the slowdown phase of the economic cycle,” said Gergely Majoros, portfolio manager at Carmignac.

Markets were betting that the Fed would “gradually normalise” monetary policy, Majoros added, while nerves about inflation had been soothed by US president Joe Biden cutting the price tag on his proposed infrastructure stimulus spending package by more than half to $1tn.

In stock markets, the S&P 500 share index rose 0.2 per cent and the technology-focused Nasdaq Composite climbed by the same amount in early dealings. Both appeared poised to hit further record highs. The Stoxx Europe 600 rose 0.6 per cent.

The market moves were “consistent with a Goldilocks regime”, Goldman Sachs strategists led by Christian Mueller-Glissmann commented in a research note, referring to a scenario where the global economy was neither expending nor contracting by too much. They warned, however, that “uncertainty on the Fed trajectory remains”.

Later on Wednesday the US central bank will publish the minutes of its June meeting, when officials brought forward their projections for the first post-pandemic interest rate rise by a year to 2023.

These will be scrutinised by investors for signals about when the Fed plans to reduce its $120bn a month of pandemic-era debt purchases, although economists do not widely expect any formal announcement until the end of the year.

“Presumably, the bond market believes that the Fed is unlikely to raise rates anywhere close to the peak of the last cycle,” Jefferies strategist Sean Darby said.

Elsewhere in markets, Brent crude dropped 2.4 per cent to $72.76 a barrel, compounding a fall of 3.4 per cent on Tuesday. The oil benchmark tumbled after talks between members of the Opec+ group of producer nations ended earlier in the week without any agreement about winding up Covid-19 supply curbs.

“If the current stand-off continues, compliance with [the] production quota will eventually deteriorate,” analysts at Morgan Stanley said. “Much of Opec’s spare capacity could come to the market quickly.”

The dollar index, which measures the greenback against major currencies and had bounced in the aftermath of the Fed’s June meeting, rose 0.2 per cent to its highest level since early April in advance of the central bank minutes. The euro fell 0.3 per cent to $1.1785, its weakest since early April.

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