Treasuries Find a Bid as Supply and GDP Loom

Treasuries Find a Bid as Supply and GDP Loom

• The risk-on tone has returned this morning and once again has spread across to Treasuries. Investors are perhaps emboldened by a well-received 2yr auction yesterday that found strong demand. However, the Treasury will be back today selling $61 billion in 5yr notes so those results could influence the afternoon action. Presently, the 10yr Treasury is yielding 4.09%, up 11/32nds in price, while the 2yr Treasury is yielding 4.29%, up 2/32nds on the day.

• As mentioned above, Treasuries are finding a bid this morning as the risk-on tone returns, and as the market awaits GDP tomorrow and PCE numbers on Friday. A softer read on growth and/or inflation could improve odds for a March rate cut. Right now, the futures market is in coin-flip territory with rate cut odds at 51%.

• While the Fed’s meeting is next week a couple central banks are meeting this week. The Bank of Canada meets this morning with expectations that they’ll keep rates unchanged, and the ECB meets tomorrow with no change expected at that meeting. Call it the coordinated pause. In fact, only the Bank of Japan looks to be preparing for rate hikes, albeit from a very accommodative position, and China’s central bank is busy reducing reserve requirements in a bid to stimulate their stagnant economy. So, while it’s too early to call it a coordinated easing cycle, it does look like most developed market central banks are heading in that direction.

• Before tomorrow’s GDP numbers we get preliminary readings from S&P Global on January PMIs. This early read on January activity will garner some attention, and while the “soft” survey-type data has generally been uninspiring, that has yet to show itself in the hard numbers, so traders are likely to take any weakness in the results with a grain of salt. The manufacturing sector is expected to remain in contractionary territory at 47.6 vs. 47.9 in December. Meanwhile, the services index is expected to flirt with contraction but stay above water at 51.5 vs. 51.4.

• While next week’s FOMC meeting is not expected to result in any rate change, we might see a discussion on how quickly to wind down Quantitative Tightening. The rapid decrease in reverse repo balances (see graph below) is moving the matter onto the agenda probably faster than the Fed may have wished. Those balances surged in 2022 as money market funds took advantage of the Fed’s hiking cycle. As an easing cycle looms, much of that money has gone looking for longer duration T-Bill investments.

• Balances topped $2.25 trillion in early 2023 but the balance now stands at $590 billion. That’s likely to prompt the Fed to discuss the matter next week, announce something definitive at the March meeting, and begin reducing the monthly run-off at the May meeting. Right now, about $100 billion per month is running off. Slowing that pace to say $60 billion may be the first step in a process that will ultimately be supportive of Treasury prices.

Reverse Repo Balances at Fed – Declining Rapidly Which Could Prompt Fed to Consider Winding Down QT