Key Highlights

• 10y yields seem to have stabilized at around 4% as the Fed rate path comes under scrutiny
• Inflation expectations are weaker on lower oil prices, but the Fed seems to be on hold
• Cross-border demand has increased since tariff announcement, but 10y demand is tepid

10y Notes Struggle to Get Below 4%

EXHIBIT #1: MARKET SEEMS TOO DOVISH

^{Source: Source: BNY Markets, Bloomberg}

After flirting with levels below 4% in the days after the administration’s tariff announcement last week, U.S. 10y yields climbed on Monday, trading above 4.1% as of this writing. We aren’t surprised at this action, given our view on the Fed; we don’t see the central bank cutting rates as quickly as the market currently has priced.  Swaps pricing sees around 3.5 rate cuts between now and December. We are sticking with two cuts for the year, in line with the most recent FOMC Summary of Economic Projections. The message from Chair Powell in his public remarks last Friday indicated that the Fed is on hold until more clarity – and crucially more post-announcement data – emerges. The market, as shown in Exhibit #1, seems to be disregarding the Fed’s public stance in pricing for a more aggressive policy path. 
 
We have consistently argued that as long as long-term inflation expectations don’t become unanchored the Fed would eventually be able to cut rates but would require evidence of an unequivocal weakening of growth and employment data to move to a rate-cutting stance. Before that, and to keep inflation expectations from moving higher, we expect the Fed to stick with it’s “on hold” message. 
 
At present, thanks to collapsing oil prices (down to around $61 bbl as of this writing – the lowest level since early 2021 during the depths of the Covid-19 pandemic shock), inflation expectations inferred from both 5y5y inflation swaps and long-term breakeven rates are quite low, at just 2.34% and 2.19%, respectively. New survey-based inflation data will be available via the April University of Michigan survey to be published on Friday. This is one dataset where long-term inflation expectations have moved higher – Chair Powell declared this to be an “outlier,” up to 4.2%, well above the last several years’ worth of readings, including during the period of high post-pandemic inflation.

Forward look

As for a “Powell put” in response to equity market weakness, we’re skeptical. While we don’t usually discuss equity markets in Short Thoughts, we do note that on March 31, the S&P 500’s cyclically adjusted price earnings (CAPE) ratio stood at over 35x. The CAPE simply uses a 120-month (i.e., 10-year) moving average of market earnings as way of smoothing cyclical variation in firms’ profits over time as the denominator of the well-known PE ratio. The CAPE has been over 30x only two other times since the beginning of the 20th century, in 1999 and 1929. For the Fed to come in and rescue such an expensive market doesn’t seem likely to us, unless further and sustained equity market weakness translate into something systemic, in which case the Fed could be compelled to act. However, this would more likely be in the form of liquidity and market structure support if something breaks, rather than rate cuts.

UST Demand Isn’t Uniform across the Curve

We have been charting and discussing cross-border flow into US Treasurys for some time now. For the most part, since summer 2024, overseas real money demand has been tepid, with brief periods of buying against more sustained periods of outflows. See Exhibit #2, which shows the 20-day moving average of flows over the past 12 months.

EXHIBIT #2: SLIGHT RETURN OF CROSS-BORDER DEMAND FOR USTS

^{Source: BNY Markets, iFlow}

Furthermore, the last two days for which we have data (i.e., Thursday and Friday last week, after the tariff announcement) have featured broad inflows across most of the U.S. curve, both in aggregate as well as by cross-border investors. At the front end, as shown in Exhibit #3, cash and short-term instruments (CAST) and the 0-1y maturity bucket (mostly T-bills, but also any bonds with less than one year left before maturing) are seeing strong cross-border demand. At the back end, the 7-10y segment is less in demand than the belly (3-5y and 5-7y) of the curve. This corresponds to the part of the term structure where most of the bond rally has occurred.

EXHIBIT #3: INFLOWS FROM ABROAD NOT UNIFORM ACROSS THE CURVE

^{Source: BNY Markets, iFlow}

Forward look

Treasury is set to hold 10y and 30y auctions this coming Wednesday and Friday, respectively. The amount of demand for this paper will be important to monitor, given recent market movements and in light of what iFlow says about real money flows. We expect the Fedspeakers on this week’s schedule to stick with the “wait and see” message, placing greater emphasis on the inflation realities and the need for clarity on other aspects of the macro landscape.