CICC believes that after the US election, the downward trend of US bond yields will end due to the restoration of fundamentals and policy changes after the rate cut. Recently, the yield on the 10-year US Treasury bond has approached 4.3%, rising by 70 basis points compared to a month ago. The interest rate may have bottomed out during the rate cut, presenting potential trading opportunities in the future, although breaking through the previous low point may be challenging. The clarification of policies after the election may lead to an increase in interest rates, so it is recommended to consider long positions at this time
Recently, the yield on the 10-year US Treasury bond has risen rapidly to nearly 4.3%, up 70 basis points from the bottom a month ago. Interestingly, on September 17th, when the Federal Reserve unexpectedly cut rates by 50 basis points amidst market rate cuts and recession expectations, it turned out to be the bottom for interest rates. Here are a few points for consideration.
Why the Upsurge?
The upsurge is not surprising. We have been constantly reminding everyone to "think and act in reverse" regarding rate cuts, as "rate cuts may also mark the gradual bottoming of interest rates," just like in 2019. If one continues to bearish on interest rates and increase bond positions during rate cuts, they are doing it wrong. In fact, over the past year, linearly extrapolating expectations of rate cuts at any given time point has almost always been incorrect.
Three Reasons:
First, expectations have been overdrawn; second, the reflexivity of interest rates, where excessive rate cuts prevent further declines because lower financing costs are conducive to growth. When growth improves, there is less need for further rate cuts, and the same applies in the opposite direction; third, the recent strong influence of Trump's trade deals has provided new support.
How High Will It Go?
Another interesting point is that interest rates will overshoot both on the upside and the downside, with rates falling below 3.7% causing surprise. The central range calculated using various methods such as the natural interest rate is 3.8-4%, but there is no guarantee that rates will immediately return once they exceed this level, just like when they fell below 3.8% and continued to decline. This scenario has played out too many times over the past year.
Future Trends?
There should still be trading opportunities before the next rate cut, as excessively high rates will trigger the reflexivity on the other side, and it is unlikely that rate cuts will suddenly stop (CME futures are still pricing in a rate cut in November). However, breaking through the previous low point will be quite challenging. The natural trend of the US economy repairing after rate cuts, combined with incremental policy changes post-election, makes it difficult for a downward trend to resume, but there are still trading and reflexivity opportunities.
The impact, pace, and extent of the election are challenging.
After Trump's victory in 2016, rates surged by 80 basis points, but this time it is somewhat anticipated. If there is another significant surge post-election, it is advisable to go long. Then, as the fundamentals improve and post-election policies become clearer, this downward cycle can come to an end.
Kevin's strategic research, original title: "Thoughts on the Recent Rapid Upsurge in US Bond Yields" by CICC Overseas