By Wong Kon How
Beside Inflation, Bonds are a Concern
US June CPI was the lowest at 3%, down from its high of 9% in June 2022. The next day, JP Morgan’s Jamie Dimon warned that inflation and interest rates might stay higher. Additionally, Fed Chairman Jerome Powell emphasized that the central bank is looking for “greater confidence” that inflation will return to the 2%, as stated in most of the meetings over the past months and on 15 July, despite the declining CPI.
Decoding Jamie Dimon
Dimon said in a statement along with the bank’s second-quarter results: “There has been some progress bringing inflation down, but there are still multiple inflationary forces in front of us: large fiscal deficits, infrastructure needs, restructuring of trade and remilitarization of the world,” “Therefore, inflation and interest rates may stay higher than the market expects.”
Part of the fiscal, infrastructure, trade, and military spending requires budgets from bond sales. However, US, UK, and EU bonds are trading much lower than their peak in March 2022. There is a risk that bonds may continue to trend lower, leading to higher yields and interest rates.
Source: Tradingview
Relationship Between Bonds, Yield and Interest Rates
When government bonds are down, yields will be higher. Since yields and interest rates move in tandem, this will cause interest rates, including the Fed funds rate, to trend higher. From the illustration above, since the bonds peaked in March 2020, yields bottomed in the same month. The bonds have been trending lower since then, and the yields and interest rates have been trending higher.
Below illustrate yield taking its lead moving higher followed-by two years later the Fed Fund rate having its first hike in March 2022. During this period, the yield curve started its inversion in June 2022.
With the ongoing money printing and trade deficits in the US and UK, the natural outcome is inflation. A lowering of bond prices may worsen the situation.
Source: Tradingview
Examine Interest Rates Through the Lens of Bonds
In addition to inflation numbers influencing interest rates, bond analysis is also crucial. What is your outlook on bond prices in the coming months?
With bonds trading much lower, it indicates that investors are losing confidence in the country’s ability to generate future economic growth. Continuous borrowing raises concerns among investors about the worst-case scenario: the ability to fulfill the principal sum at the end of the tenure. The recent shocking election results in the UK and France, along with a divided US Congress, suggest that the outlook for these bonds may not be favorable.
Market Outlook:
Therefore, bonds should still be under pressure, yield and interest rates should remain higher with a short-term easing, and stock markets should begin to get more volatile for the rest of the year. Below was shared last month with Nasdaq targeting at around 21,000, and it has reached this target on 11 July. With more volatility in US stocks, I am expecting more trading opportunity ahead.
Source: Tradingview
Source: Tradingview
This article was first submitted to CMC Markets on 15th July 2024 for publication. Here's the link.
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