Traders work on the floor of the New York Stock Exchange.
NYSE
Stock brokers don’t normally talk about bond auctions, but throughout this week the 10-year Treasury auction that will take place on Wednesday was the main topic of conversation.
“Stock brokers have not bothered with bond auctions for a long time,” said Matt Maley of Miller Tabak. “The number one issue for the stock market now is bond yields.”
This belief is widely held on the streets: with the history of the reopening now widely valued in stocks, interest rates are the marginal driver of markets.
You could smell panic among stock brokers when the 10-year yield went from 1.1% to 1.5% in less than two weeks at the end of February, which caused technology stocks to plummet. Some securities watchers predicted that yields could rise to 2%.
If other stock rises depend on rates, have they peaked? The 10-year Treasury ran several runs by exceeding 1.6% and failed. This is giving hope to some investors that the race is over.
Much depends on the outcome of Wednesday’s 10-year auction at 1 pm ET. Some optimists believe that demand will be strong, mainly from foreign buyers like the Japanese, whose 10-year yield is 0.1%.
Guy Lebas, chief fixed-income strategist at Janney Capital Markets, said that foreign demand for U.S. Treasury bonds has and will remain strong.
“What matters is the pace of the increases, not the real yields,” he said. “We had a very rapid increase in yields in late February and early March, and that caused a lot of indigestion. When prices fall as they are, more demand kicks in and slows down the process.”
This includes foreign buyers.
“A large part of US Treasury bills are owned by foreign entities, about 40% of all Treasury bills in circulation,” he told me. “Many of these buyers are hedging currency risk, so what matters is post hedge yield. At the moment, you’re getting 1.5% over the 10-year period and 20 basis points in currency hedging, that is, 1.7%. This is a very attractive income for foreign buyers. There is nowhere in the world where you can get 1.7% on a currency hedge basis. “
This is music to the ears of optimists, who are also hopeful that one of the main concerns for increasing bond yields – inflation – will also calm down quickly.
“Whatever the price increases we are seeing for commodities, it is due to pent-up demand and because the supply chain is stressed,” Alec Young, chief investment officer at Tactical Alpha, told me. “But whenever the equilibrium returns to the line, you will see prices fall again. Price increases are due to the reopening, not long-term inflation, and the bond market has overreacted.”
Still, even Young believes that the 10-year auction will be the main driver of the market. “A lot of traders are likely to be quiet until the auction,” Maley told me.
What if the auction keeps rates close to the 1.5% level? This – for Alec Young – will be a sign that it is much safer to return to technology.
“Investors want to have technology,” he told me. “There is no deep loyalty to most names that reopen. No one wants to bring down Carnival Cruise Lines, or United Airlines or even Chevron. They want technology.”