Fed/Powell testimony: Relationship between bond yields and QE

Investors have raised concerns about increased bond yields in recent weeks. (Tera Yatırım)

Investors have raised concerns about increased bond yields in recent weeks. Today, all ears will be given to Fed Chairman Powell, especially with the 10-year rates increasing. Investors are waiting for any hint of QE reduction.


The main theme is the rise in the US 10 year bond yields… Well, if we look at what has been underlying the developments in the bond market recently; Increase in long-term inflation expectations in the USA. Underlying, this is mainly related with the intensely economic recovery expectations. Currently, the situation that creates inflation in the USA is an rising in cost pressure with the increasing effect from commodity and energy prices. On the other hand, the low support of the demand component to the economy had increased the disinflation pressure in the previous period. The reasons for the weak demand were the negative impact of Covid infections on economic activity, shutdowns and reduced disposable income of individuals due to the deteriorating employment market. Now, especially in January, there is a movement in the US retail sector, and the interim package and the contribution of the Biden financial package (to be voted on February 26) to the individual revenues stands at an important point. With the activation of the demand, the effect of the cost, which is concentrated on the producer side, to the prices may occur more rapidly. This will stimulate inflation and even place it above 2% for a certain period of time. It is in line with the Fed's average inflation strategy.


In this environment, the markets’ eyes will be on Powell, who will be speaking today, will try to get an idea of ​​the possibility of reducing QE in an earlier period. At this stage, there is a bond stock that the Central Bank is increasing with the expansionary monetary policies, and the value of the bonds decreases as the interest rates increase. The long-term side of the yield curve started to steep with inflation expectations. Options in this situation will be either the Fed will buy more by focusing on the long-term side of the yield curve (a kind of yield curve control), or the QE will begin to be reduced at an earlier stage. The economic data has been getting a little good lately; On the PMI side, manufacturing and service are in a positive differentiation compared to Europe. In case there is a short-term effect or an exaggerated situation in the data indicating economic vitality, the Fed will want to see continuity.


In his speech two weeks ago, Powell pointed out that they are still behind the starting point for the economy and that the employment market has a long way to go. The money and options markets are pricing at a higher rate for the Fed's rate hike of 25 basis points towards 2022. Of course, before the interest rate hike, there will be a balance sheet contraction process. Powell might offset some interest rate movement if he takes a little moderation today and increases the likelihood that QE will continue at least at the current size in the foreseeable period. It seems that Powell is not in the phase of making an impact similar to the 2013 Bernanke turn, at least within the framework of his current direction.


Kaynak Tera Yatırım
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