When it comes to financial policy, Federal Reserve Chair Janet Yellen is doing all she can to ensure there’s little distinction between herself and Ben S. Bernanke. The bond market will see.
Measures of volatility according on interest rate swaps have declined this year and are now marching towards levels not seen since before the Fed first signaled in May its intention to trim down the unprecedented bond purchasing that’s supported the U.S. economy, according to data gathered by Bloomberg.
The relative calm underscores the strides Fed officials have made in reassuring investors that its retreat won’t automatically lead to greater interest rates. After yields on 10-year Treasuries reached a 29-month high at the beginning of the year, they have since pulled back as Yellen promised to continue her predecessor’s tapering policy in “measured steps” and keep borrowing costs low to aid the U.S. labor market.
“Bond markets understand that Bernanke and now Janet Yellen are talking from the same song sheet,” Neil Mackinnon, a global macro strategist at VTB Capital Plc and former U.K. Treasury official, said in a telephone interview from London on February 24. “The market has bought into the idea that Fed tapering is not tightening.”
Treasuries have returned 1.9 percent this year, bouncing back from a 3.4 percent yearly decline that was the lowest since 2009, index data compiled by Bank of America Merrill Lynch revealed.
Taper Tantrum
Yields on 10-year government bonds, a standard for everything from corporate bonds to mortgages and car loans, depreciated to 2.65 percent last week from a high of 3.05 percent in January, which was the topmost since July 2011. The yield was 2.6 percent as of 11:58 a.m. in New York.
Because of the of the Federal Reserve, economists including Michael Feroli, the head U.S. economist at New York-based JPMorgan Chase & Co., warned policy makers last week that a monetary-market convulsion same to the “tantrum” that takes place in 2013 may be bound to happen when the central bank does hikes interest rates.
“Whenever the decision to tighten policy is made, then the instability seen in summer of 2013 is likely to reappear,” Feroli, a former Fed economist, and his co-authors Anil Kashyap of the University of Chicago, Kermit Schoenholtz of New York University’s Stern School of Business and Hyun Song Shin of Princeton University, said a February 28 gathering.
In the debt markets, volatility gauges give a more sanguine outlook.
Anxieties Decrease
The Chicago Board Option Exchange Interest Rate Volatility Index, a measure that shows the cost for contracts to guard versus sudden declines by locking-in fixed rates, plummeted last week to the weakest point since May.
Normalized volatility on options for 10-year interest-rate swaps due in six months, a gauge of swings of yields (USGG10YR) on similar-maturity Treasuries, relinquished as low as 73.99 basis points last month, the least since May 30.
The absence of skittishness stands in contrast to the hike of volatility set off by Bernanke’s comments in May, when he said policy makers could scale back the Fed’s $85 billion in monthly bond purchases in the “next few meetings.”
That month, implied volatility on the contracts known as swaptions increased by the most since Lehman Brothers Holdings Inc. collapsed in September 2008. Yields on 10-year Treasuries, which fell to a low of 1.61 percent on May 1, eclipsed 3 percent by September and triggered declines in fixed-income assets.
Seasonal Effect
“Much of the 2013 rate volatility was driven by uncertainty in the outlook for Federal Reserve policy,” Jake Lowery, a money manager in Atlanta at ING U.S. Investment Management, which oversees $200 billion, said by telephone on February 25. This year, “the relative certainty in the near-term direction of Fed policy has had its own suppressive effect.”
Although the harsh winter weather affected the retail sales, manufacturing and housing data that missed economists’ projections, Yellen reiterated on February 27 that the central bank is likely to keep curtailing its stimulus.
The Fed has lessen its purchases of Treasuries and mortgage-supported securities by $10 billion at each of its past two policy assemblies and economists surveyed by Bloomberg projection the central bank will continue that pace until it stops purchasing bonds in December.
At the same time, she indicated that the Fed is moving away from a year-old commitment to increase interest rates from close to zero once the unemployment rate depreciates under 6.5 percent and will instead give investors with qualitative guidance on its intentions.
