CITIC Securities: US bond yields have entered a downward cycle. There is still room for US bond yields to decline after the first rate cut

According to the financial news app Zhitong Finance, CITIC Securities released a research report stating that the Federal Reserve is expected to cut interest rates by 25bps in September, with a total cut of 50-75bps within the year. The main reasons for the Fed's rate cut are the weakening US job market and significant easing of inflation pressure. After the first rate cut, although the US real estate market may quickly rebound, it is expected that the job market will have difficulty stabilizing rapidly. The Fed will need to see healthy growth trends in areas such as US employment, income growth, and consumption before ending the rate cuts. US bond yields have entered a downward cycle, and there is still room for further decline in bond yields, especially in short-term bonds.

Key points from CITIC Securities:

The recent weakening job market has prompted the Fed to start cutting rates. If the future addition of non-farm payrolls stabilizes around 200,000, the Fed may consider halting rate cuts.

A significant drop in new non-farm payrolls, often below 100,000, tends to trigger preemptive rate cuts by the Fed. If, after a rate cut, new non-farm payrolls continue to fluctuate around 150,000, or even show signs of weakening, the Fed may cut rates again. In addition, declining income growth is also one of the factors the Fed considers when cutting rates. If personal disposable income remains stable at above 0.35% on a month-on-month basis, the Fed may stop cutting rates.

From an inflation perspective, the Fed will consider halting rate cuts if US PCE remains stable at 2%-3% year-on-year.

The previous two rounds of preemptive rate cuts occurred during periods of weak inflation, so the end of rate cuts often coincides with stabilization or a rebound in inflation indicators (PCE stable at 2%-3% year-on-year, PPI stable at 2%-3% year-on-year). Although inflation pressure was higher before this round of rate cuts compared to the previous two rounds, if future inflation indicators rise significantly above 3%, the Fed may lean towards halting the rate cut process.

Rate cuts have a more direct and obvious stimulus effect on the US real estate market, but boosting corporate investment and consumption may require multiple rate cuts.

Historical data shows that indicators such as US real estate starts and investments often see a significant rebound 1-3 months after the first rate cut, and multiple rate cuts will gradually boost the real estate market. However, for corporate investment (non-residential investment), there is a certain lag in the stimulus effect of rate cuts, and corporate investment tends to bottom out and rise after multiple rate cuts. Currently, corporate investment and profits still show resilience, so corporate investment is expected to strengthen after this round of rate cuts. In addition, looking back at the previous two rounds of preemptive rate cuts, consumption often has difficulty stabilizing significantly after the first rate cut. The Fed may lean towards pausing rate cuts and observing when retail sales growth stabilizes significantly above 0.3% month-on-month, or even stop cutting rates.

It is expected that the Fed will start cutting rates in September, with a total cut of 50-75bps within the year.

Powell's dovish remarks at the Jackson Hole meeting stated that the Fed is not seeking nor welcoming further cooling of the labor market conditions. As the Fed makes further progress in price stability, it will make every effort to support a strong labor market. Considering the current trend of the US economy, the probability of a 25bps rate cut at the September meeting is high. Currently, the necessity of a 50bps rate cut by the Fed is low, while the probability of a total cut of 50-75bps within the year is high Next year, the pace of rate cuts by the Federal Reserve still needs to be observed based on the indicators mentioned above such as the job market, income, consumption, and business investment. If the US economy shows slow recovery next year, there is a possibility of further rate cuts.

US Treasury bond yields often start trending downward 1-2 months before rate cuts, and turn upward after a clear economic recovery.

1-2 months before the start of rate cuts, US Treasury bond yields often enter a downward cycle in advance. After the rate cuts begin, due to the time needed for the US economy to stabilize and the stimulus from rate cuts, there is still room for US Treasury bond yields to decline after the initial rate cut. However, in the subsequent process, if the US economy shows significant recovery, the expectation of rate cuts will significantly cool down, and US Treasury bond yields may turn upward accordingly. YoY industrial output can be used as a reference for selling US Treasury bonds.

Currently, it is more advisable to allocate to medium-term US Treasury bonds.

The 1-year US Treasury bond yield still has room to decline after the Federal Reserve starts rate cuts. However, due to the tendency for long-term US Treasury bond yields to price in overly optimistic future rate cuts before the rate cuts, and the hindrance to the downward trend of long-term US Treasury bond yields from the warming expectation of US economic recovery after rate cuts, the overall downward space for 10-year US Treasury bond yields is relatively limited after rate cuts start. Therefore, compared to long-term US Treasury bonds, it is currently more advisable to allocate to medium-term US Treasury bonds.

Risk Factors:

Unexpected changes in the US economy; unexpected changes in US inflation; unexpected changes in US industrial and other policy directions; unexpected geopolitical risks, etc