Unemployment will fall to about 7 percent in the fourth quarter, according to economists at five of the world’s largest banks, creating more confusion among investors about the Federal Reserve’s bond-buying plans.
Fed Chairman Ben S. Bernanke said last month that the central bank could stop purchasing assets around the middle of next year when joblessness “would likely be in the vicinity of 7 percent.” Bank of Tokyo-Mitsubishi UFJ, Barclays Plc, Citigroup Inc., Deutsche Bank AG and UBS AG all predict the rate will be either at or just above that level in the fourth quarter, six months sooner than Bernanke projected.
“It will definitely pose more communication problems for the Fed,” said Drew Matus, deputy U.S. chief economist at UBS Securities LLC in Stamford, Connecticut, and a former analyst at the Federal Reserve Bank of New York. “And once again, those problems will be of its own making.”
Bond prices have dropped and market volatility has increased in the last six weeks as investors have struggled to figure out the Fed’s plans for its asset purchases. Prices will fall further during the next 12 months, as a faster-than- forecast decline in unemployment pressures the Fed into ending its program early, said Joseph LaVorgna, Deutsche Bank chief U.S. economist in New York.
One consequence of 7 percent unemployment is that the yield on 10-year Treasury notes will rise to 2.75 percent by year’s end, with a further increase to 3.25 percent by next June, after the Fed winds up purchases by January, LaVorgna said. Treasuries advanced today, with the 10-year yield slipping 2 basis points to 2.46 percent as of 9:11 a.m. London time.
‘Anchored’ Rates
“The yield curve will steepen,” because interest rates on two-year notes will be “anchored” by the Fed’s promise to keep short-term rates near zero for a long time, LaVorgna added. The yield on these securities was 0.35 percent on July 1.
Bond-market volatility probably will increase even more later this year, as the drop in joblessness sows confusion among investors about the Fed’s aims, Matus said. Unlike LaVorgna, he doesn’t see the Fed ending its purchases early and instead says policy makers will point to other indicators -- such as continued low inflation -- to justify extending the program until the middle of 2014.
Volatility in Treasuries fell to 97.13 on June 27 from 103.46 the previous day, the most recent data available, as measured by Bank of America Merrill Lynch’s MOVE index. It climbed to 110.98 on June 24, the highest since November 2011, and has averaged 62.55 this year.
Celebratory Milestone