Bond Selloff Threatens U.S. Economy Amid Rising Deficit Fears
October 5, 2023
Threat to U.S. Economy’s Soft Landing
The recent plummet in bond prices is poised to jeopardize the prospects of a smooth deceleration of the U.S. economy. Market participants are bracing for elevated borrowing costs to persist, fueled by worries about a ballooning federal deficit. Bonds maturing in a decade or more have suffered a 46% fall since reaching a pinnacle in March 2020, a marginally lesser dip than the 49% slump in U.S. stocks following the dot-com bubble burst.
Barclays on the Impact of the Bond Selloff
Barclays has asserted that the recent bond selloff’s scope is so severe that stocks could potentially be costlier than they were a month prior. The bank suggests a single scenario that could prompt a substantial rally in bonds – a marked downturn in risk assets in the approaching weeks. Barclays highlighted the “Federal Reserve’s likely persistence with quantitative tightening and its continued position as a net Treasury seller”. The escalating bond supply due to the burgeoning deficit also contributes to an increase in the term premium.
Anticipated Impact of Labour Market Conditions
After the ADP jobs report indicated a weakening labor market, Treasury yields retraced from multi-year peaks this past Wednesday. Market players will keep a keen eye on the forthcoming non-farm payrolls report, as robust data could ignite further selloff in bonds. “Due to the American economy’s resilience and a scarcity of bond buyers, market volatility will persist,” says Edward Moya, a senior market analyst at OANDA.
Views from the Asset Management Sphere
Michael Craig, who heads asset allocation at TD Asset Management, contends that the uncomplicated part of curbing inflation has transpired. However, he cautioned that the remainder would pose a significant challenge, as the bond market seems to be indicating a need to nudge the economy towards a recession. In contrast, Investing Group Leader Lawrence Fuller maintains that the panic selling of bonds is unrelated to economic fundamentals. He ascribes it to misguided messaging from Federal Reserve officials, who insist that short-term rates may need to be higher for longer to quell inflation. Consequently, any incoming economic data exceeding expectations heightens fears of prolonged elevated rates.