U.S. Treasury markets"not fully healed" after April sell-off - Capital Economics

Investing.com - The benchmark 10-year U.S. Treasury yield is now at levels not much higher than prior to the announcement of President Donald Trump’s aggressive "reciprocal" tariffs, but it may be "too soon to conclude" that the bond market is "back to normal", according to analysts at Capital Economics.

Bond yields, which tend to move inversely to prices, rose sharply following Trump’s announcement of heightened levies on dozens of countries in early April. The sell-off in the bond markets, coupled with deep ructions in stocks, were viewed as reasons motivating Trump’s later decision to delay the tariffs for 90 days.

Yields on 10-year U.S. Treasury have since eased back after at points touching its highest level since 2001 -- ructions at the time that were seen as indications the tariffs had shaken confidence in the U.S. economy.

"That peak came alongside commentary about ’dislocation’ in the Treasury market, speculation of foreign ’dumping’ of Treasuries, and worries about a ’U.S. risk premium’ emerging in the country’s assets," said Thomas Mathews, Head of Asia Pacific Markets at Capital Economics, in a note to clients.

"But we suspect it’s too soon to conclude from the now-lower yield that the Treasury market is back to normal."

In particular, Mathews flagged a "sense" that Treasury term premia -- the extra return investors demand for holding longer-dated debt -- "are still higher than they were and the late-April fall in yields reflected instead expectations" for more interest rate cuts by the Federal Reserve.

If this is case, Mathews added that there could be implications for how Treasuries might evolve over the rest of 2025, especially if projections for upcoming Fed reductions are dashed.

On Wednesday, the Federal Reserve left interest rates unchanged, flagging higher risks from inflation and unemployment.

Fed Chair Jerome Powell also said it was "not at all clear" what the appropriate response for monetary policy should be at this time given the uncertainty around the tariffs.

Weighing the Fed’s statement and Powell’s commentary, the Capital Economics analysts said they suspect that investors are "overestimating how fast the central bank will be willing to cut inthe face of tariff-induced inflation, even if it’s temporary".

As a result, they anticipate that the 10-year Treasury yield will be at 4.50% at the end of the year. Early on Thursday, the 10-year yield stood at 4.31%.