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Is A Steepening Yield Curve in the Cards? ETFs to Benefit
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After nearly 18 months of consistent interest rate hikes by the Federal Reserve, signs of cooling labor market are emerging, prompting major bond investors to speculate that the tightening cycle could be coming to an end. There was an increase in the unemployment rate to 3.8% in August, a level last observed in February 2022.
This was the third instance of soft labor market data during the week, following below-expectation job openings and slowing job additions by U.S. companies according to the ADP Research Institute. Such labor market weakness has led to a market sentiment favoring the policy-sensitive two-year Treasury investing. Notably, BlackRock Inc.'s Jeff Rosenberg has described these Treasuries as a "screaming buy," as quoted on Bloomberg.
Additionally, seasonal dynamics might play a role, as post-US Labor Day, companies typically hasten to sell debt, creating pressure on long-duration bonds. While inflation has trended lower in recent months, the resilient job market had been a significant factor preventing the Fed from halting its rate hikes.
Is Steepening Yield Curve in the Cards?
The recent labor market data has led to a consensus that the Fed is currently on hold, and the prospect of a rate hike cycle ending is becoming more plausible. Michael Cudzil, a portfolio manager at Pacific Investment Management Co. (PIMCO), commented that if the Fed's hiking cycle is indeed over, the focus will shift to the potential for a first rate cut, leading to steeper yield curves.
Short-term Treasuries displayed better performance on Sep 1, 2023 contributing to a steeper yield curve. Two-year yields experienced a decline of approximately 20 basis points over the week, dropping below 4.9%. Conversely, 30-year yields remained relatively stable around 4.30%, after having surpassed five-year yields for the first time in several weeks.
The steepening of the yield curve is not only supported by market dynamics but also by economic fundamentals. Subadra Rajappa, head of US rates strategy at Societe Generale also supports this view. This could either occur as the market factors in more Fed cuts or if the Fed maintains its stance with strong data, resulting in a selloff in the long end of the curve, the Bloomberg articled noted.
Impact on Bond Market
The August bond market saw an intense selloff, leading to 10-year yields reaching their highest point since 2007. However, the week concluded with the global benchmark rate ending below 4.2%, as investors welcomed the labor market data.
Outlook and Predictions
George Goncalves, head of US macro strategy at MUFG, suggested that this situation would favor the front-end of the yield curve as opposed to the back-end. He believes two-year yields could potentially decrease toward 4.5%. Interest-rate swap traders estimate a slightly under 50% chance of another hike by November, with a quarter-point cut fully priced in by June.
ETFs to Gain
iShares 1-3 Year International Treasury Bond ETF (ISHG - Free Report)
The underlying FTSE World Government Bond Index-Dev Markets 1-3 Years Capped Select Index comprises of non-U.S. developed market government bonds with remaining maturities between one and three years. The fund charges 35 bps in fees. The fund was up 0.6% last week.
BondBloxx Bloomberg Three Year Target Duration US Treasury ETF (XTRE - Free Report)
The underlying Bloomberg US Treasury Three Year Duration Index composes of U.S. Treasury securities with a duration between 2 and 4 years. The fund charges 5 bps in fees and yields 3.76% annually.
A steepening yield curve is great for bank stocks as it raises banks’ net interest rate margins. The bank ETF KBE was up 2% on Sep 1, 2023 as the yield curve steepened. The fund yields 3.22% annually.
The underlying Bloomberg US Treasury 1-3 Year Index includes all publicly-issued U.S. Treasury securities that have a remaining maturity of greater than or equal to one year and less than three years and are rated investment grade and have $250 million or more of outstanding face value. The fund charges 3 bps in fees and yields 3.16% annually.
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Is A Steepening Yield Curve in the Cards? ETFs to Benefit
After nearly 18 months of consistent interest rate hikes by the Federal Reserve, signs of cooling labor market are emerging, prompting major bond investors to speculate that the tightening cycle could be coming to an end. There was an increase in the unemployment rate to 3.8% in August, a level last observed in February 2022.
This was the third instance of soft labor market data during the week, following below-expectation job openings and slowing job additions by U.S. companies according to the ADP Research Institute. Such labor market weakness has led to a market sentiment favoring the policy-sensitive two-year Treasury investing. Notably, BlackRock Inc.'s Jeff Rosenberg has described these Treasuries as a "screaming buy," as quoted on Bloomberg.
Additionally, seasonal dynamics might play a role, as post-US Labor Day, companies typically hasten to sell debt, creating pressure on long-duration bonds. While inflation has trended lower in recent months, the resilient job market had been a significant factor preventing the Fed from halting its rate hikes.
Is Steepening Yield Curve in the Cards?
The recent labor market data has led to a consensus that the Fed is currently on hold, and the prospect of a rate hike cycle ending is becoming more plausible. Michael Cudzil, a portfolio manager at Pacific Investment Management Co. (PIMCO), commented that if the Fed's hiking cycle is indeed over, the focus will shift to the potential for a first rate cut, leading to steeper yield curves.
Short-term Treasuries displayed better performance on Sep 1, 2023 contributing to a steeper yield curve. Two-year yields experienced a decline of approximately 20 basis points over the week, dropping below 4.9%. Conversely, 30-year yields remained relatively stable around 4.30%, after having surpassed five-year yields for the first time in several weeks.
The steepening of the yield curve is not only supported by market dynamics but also by economic fundamentals. Subadra Rajappa, head of US rates strategy at Societe Generale also supports this view. This could either occur as the market factors in more Fed cuts or if the Fed maintains its stance with strong data, resulting in a selloff in the long end of the curve, the Bloomberg articled noted.
Impact on Bond Market
The August bond market saw an intense selloff, leading to 10-year yields reaching their highest point since 2007. However, the week concluded with the global benchmark rate ending below 4.2%, as investors welcomed the labor market data.
Outlook and Predictions
George Goncalves, head of US macro strategy at MUFG, suggested that this situation would favor the front-end of the yield curve as opposed to the back-end. He believes two-year yields could potentially decrease toward 4.5%. Interest-rate swap traders estimate a slightly under 50% chance of another hike by November, with a quarter-point cut fully priced in by June.
ETFs to Gain
iShares 1-3 Year International Treasury Bond ETF (ISHG - Free Report)
The underlying FTSE World Government Bond Index-Dev Markets 1-3 Years Capped Select Index comprises of non-U.S. developed market government bonds with remaining maturities between one and three years. The fund charges 35 bps in fees. The fund was up 0.6% last week.
BondBloxx Bloomberg Three Year Target Duration US Treasury ETF (XTRE - Free Report)
The underlying Bloomberg US Treasury Three Year Duration Index composes of U.S. Treasury securities with a duration between 2 and 4 years. The fund charges 5 bps in fees and yields 3.76% annually.
SPDR S&P Bank ETF (KBE - Free Report)
A steepening yield curve is great for bank stocks as it raises banks’ net interest rate margins. The bank ETF KBE was up 2% on Sep 1, 2023 as the yield curve steepened. The fund yields 3.22% annually.
Schwab Short-Term U.S. Treasury ETF (SCHO - Free Report)
The underlying Bloomberg US Treasury 1-3 Year Index includes all publicly-issued U.S. Treasury securities that have a remaining maturity of greater than or equal to one year and less than three years and are rated investment grade and have $250 million or more of outstanding face value. The fund charges 3 bps in fees and yields 3.16% annually.