Following another week of strong economic data and low conviction among investors, the 10-year yield on Treasury notes surged to its highest level since November.
Commenting on these developments, UBS strategists believe the risk-reward ratio is “skewed towards lower rates” though they expect sentiment “to remain fragile into US PCE and jobs data next week.”
UBS highlighted that the core PCE deflator increased by 3.7% on a seasonally adjusted annual rate in the first quarter, exceeding the expected 3.5%.
This led to the March change in core PCE prices reaching approximately 2.8% year-over-year in today’s PCE data, which contrasts with UBS’s earlier prediction of 2.7%.
Furthermore, they observed significant market frustration over the past four months among investors who missed the opportunity to buy U.S. real yields at 2.50% in October “so we think it will be difficult for 10yr real yields to increase beyond 2.40%,” they wrote.
“That means any dramatic move will rely heavily on moves in breakeven inflation, and they are already within a handful of basis points of their cheapest levels since October,” UBS strategists commented.
“We think the US Treasury is likely to announce a new buyback program on 1 May, which should help 20s but we do not expect this to be a game changer,” they added.
UBS pointed out the previous November refunding announcement when the US Treasury managed to stop a selloff by stating that auction sizes would not increase starting in May. This time, however, there are no similar strategies available.
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The expected buyback program would involve issuing more on-the-run securities to facilitate the purchase of off-the-run securities.
“Unlike central bank bond purchases, no duration is removed form the market,” said UBS.
