As US bond yields climb and dollar index nears 105: A sign of trouble ahead?

In September, the US Dollar Index once again approached the 105 level, and the yield on 10-year Treasury bonds briefly rose above 4.3%. Optimism around the US economic outlook and the Treasury Department’s larger-than-expected bond issuance for H2 2023 have been the key factors driving both the US dollar and 10-year yields higher in recent weeks. Underlying support for the US dollar and bond yields looks strong, but momentum is running out of steam and a stabilization period is expected to ensue over the coming months.

Dollar Index

A record net bond issuance pushed yields higher, but won’t be a catalyst going forward

On August 1st, shortly after Fitch downgraded the US’ sovereign long-term credit rating to AA+ from AAA, the Treasury hiked its Q3 bond issuance to $1.007 trillion (previously $733 billion) and maintained a high issuance of $852 billion for Q4. Typically, yields tend to surge following a substantial government bond issuance or when a debt ceiling is breached, meaning the strong increase in the 10-year was somewhat anticipated throughout August. In addition, there was an unusually large concentration of bonds with maturities over 10 years, adding a total of $150 billion to the auction volume, pushing long-end yields even higher.

Nevertheless, this support for the 10-year is waning as upcoming long-term bond auction volumes are set to decrease by $90 billion, shifting focus back to short-to-medium-term bonds of 2-7 years. The acceptance rate for the August 2-year and 3-year auctions was notably higher, with the 2-year bid-to-cover ratio reaching a yearly high of 2.94% and the 3-year auction yield peaking at 4.398% (previously 4.534%). Additionally, the Federal Reserve's maturing bond holdings over the next two months are below $60 billion, indicating that the impact of bond supply should gradually fade, and in turn momentum in yields.

bond issuance

The strong economy: A key driver of rising bond yields and the dollar

As mentioned in our previous CEO House View report, markets have been consistently revising GDP estimates upward due to robust consumer spending data, and the real estate sector is showing signs of recovery after an 18-month slowdown.

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