US Treasury Yields soar: Fed caution, US Presidential Elections uncertainty among key reasons; Analysts expect reversal

US bond yields have been on an upward trajectory, with the benchmark 10-year Treasury yield reaching a three-month high on Wednesday. This sudden rise in bond yields, occurring ahead of the 2024 US Presidential Election, has exerted downward pressure on global equity markets.

The 10-year Treasury yield has surpassed critical technical levels, including its 200-day moving average and the 50% Fibonacci retracement from the decline observed between April and September, according to a Reuters report.

The yield on the 10-year Treasury note last fell by 3 basis points to 4.214%, after earlier hitting 4.260%, the highest level since July 26. Meanwhile, the two-year yield reached 4.084%, its highest point since October 10. The spike in yields also bolstered the US dollar index, which climbed to nearly a three-month high against major currencies, peaking at 104.38.

Mounting uncertainty surrounding the November 5 US Presidential Elections, combined with strong economic data leading investors to anticipate a less dovish stance from the Federal Reserve, has put US bonds under pressure and driven yields higher.

“This rally was buoyed by investor optimism over Donald Trump’s potential return to the White House, with speculation about a Republican “whitewash” amplifying expectations of fiscal expansion under his leadership. This resulted in diminishing the 50-basis rate cut probability which also contributed to the dollar’s gains,” said Amit Pabari, MD, CR Forex Advisors.

Here are key reasons behind the rising US Treasury Yields:

US Presidential Election Uncertainty

Market concerns are growing over the potential economic policies of the next US president, whether it be Kamala Harris or Donald Trump. Investors are wary of how the election's outcome could impact government spending and inflation.

This week's rise in bond yields has been partly attributed to increasing odds of a Donald Trump victory, whose policies, such as imposing tariffs and cracking down on illegal immigration, are perceived as potentially driving inflation higher. According to the betting site Polymarket, Trump currently holds around a 60% chance of winning, while Harris has a 40% probability of victory.

Investors are also showing caution in purchasing bonds ahead of the election, as the fiscal outlook will heavily depend on which party secures control of Congress.

US Fed Rate Cut Hopes

The US Federal Reserve cut interest rates last month by 50 bps to the 4.75%-5.00% range, the first such move since the pandemic lows, with expectations for two more cuts before year-end. The Fed hiked rates by 525 basis points in 2022 and 2023 to tame high inflation.

However, a series of robust macroeconomic indicators, coupled with hawkish remarks from Federal Reserve officials, have dampened expectations for significant monetary easing through the remainder of this year, according to the CME Group's FedWatch Tool.

Traders have lowered the probability of the Fed implementing further 50 basis point rate cuts following September's stronger-than-expected employment report. The likelihood of a 50 bps rate reduction at the final two meetings of 2024 has dropped to around 66%, down from 70% the previous day and 86% a week ago. Current market sentiment places a 32% probability on a single 25 basis point cut by year-end, with only a 2% chance of no change in rates.

Strong US Economic Data

A string of upbeat economic data on consumer spending, job growth, and inflation has prompted investors to scale back expectations for the pace and magnitude of rate cuts, boosting US Treasury yields.

In September, US job gains surged to their highest level in six months, and the unemployment rate declined to 4.1%. Retail sales also posted solid growth during the same period. The resilient economy has been bolstered by strong income growth and ample household savings, helping maintain consumer demand.

The resilient economy has been underpinned by firm income growth and ample household savings. Though labour market momentum has slowed, the level of layoffs remains historically low, supporting wage gains, Reuters reported.

Meanwhile, the Fed's Beige Book survey found that US economic activity was little changed from September through early October while firms saw an uptick in hiring.

Outlook

Amit Pabari, Managing Director of CR Forex Advisors, believes that the recent rise in US bond yields is temporary, and a reversal is likely in the near term.

“US Treasury yields have peaked at levels between 4.2% and 4.3%. We anticipate a reversal in yields moving forward, driven by expected Fed rate cuts. The next US president will face challenges in managing the high fiscal deficit and stimulating the economy, which may prioritize lowering interest rates. This, in turn, is likely to ease bond yields,” Pabari stated.

He projects that US Treasury yields could decline to levels between 4% and 3.75%, which would also put downward pressure on the US dollar index.

“US bond yields have become a key driver for dollar movement. We expect the US dollar index, having peaked near 104, to drift lower to 102 - 102.50 levels. Should it breach this range, the index could further decline to 100.50,” Pabari added.

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