Bond market participants have been clamoring for the change, and it finally happened. Earlier this year, the 10-year U.S. Treasury note replaced the 30-year U.S. Treasury bond, often dubbed the long bond, as the new benchmark for the fixed-income market. In following this practice, the U.S. has now emulated the debt markets of other governments that have used 10-year securities as their barometer.
The news comes at a time when U.S. Treasuries have outperformed other fixed-income sectors so far this year. Why? According to James Snyder, chief investment officer of Northern Trust, the volatile stock market has led to “safe haven” purchases of Treasuries as opposed to other fixed-income securities. “We believe legitimate credit concerns are beginning to build that justify taking a cautious approach to long-maturity spread sectors predominantly made up of corporate securities,” wrote Synder in his monthly analysis of market conditions. “Finally, equity market volatility tends to hurt the relative returns of corporate bonds. If volatility remains high, it will have its biggest impact on longer-maturity, low-rated securities.” The recent activity already bears out this sentiment as the issuing of corporate bonds reached its lowest point since September 1998.
Other factors that have made the Treasury bond market more appealing are supply and demand as well as the cooling of the economy. In late May, the market rallied as the Treasury Department completed its sixth debt buyback of the year, purchasing $2 billion in 30-year bonds. And reports of weaker-than-expected employment gains for May provided a strong tonic for bonds as investors became less worried that the Federal Reserve would continue its program of interest rate hikes to keep inflation at bay. (On May 16, the Fed increased interest rates by 50 basis points, the sixth such hike since mid-1999.) Other evidence of a slowing trend was news of declines in new home sales (off 6% from 1999) because of higher mortgage rates and the dwindling supply of available properties. Regional manufacturing activity has also downshifted.
But as fears diminish over rate hikes and inflation, the stock market may take focus away from the bond market as investors seek meaty returns. For instance, Treasuries surrendered gains to the Nasdaq composite index as investors shifted money out of bonds and into stocks after the release of the May employment report. The Nasdaq surged 230.88 points as the 10-year Treasury note moved up 3/32, or 93.75 cents per $1,000 face value, and its yield, which moves inversely to prices, fell to 6.161% from 6.174%. The yield on the 30-year bond still remained below that of its 10-year cousin, 5.942% (see “In Search of Bond Opportunities,” Moneywise, April 2000).
In any event, the continuation of the bond rally will depend on a less torrid economy — and the temperature of the Fed.