The Fed’s holdings are equal to a quarter of the U.S. annual gross domestic product. That compares with around 6 percent from 1998 to 2008. What’s more, its investments to maintain the current size of its U.S. debt holdings financed roughly 40 percent of America’s budget deficit last year.
“Yields should edge higher,” said Stanley Sun, U.S. rates strategist at Nomura Holdings Inc. “As you have new supply come into the market without the Fed on the other side, that’s what’s going to weigh on the market.”
Consensus Forecast
Indeed, in the most recent Bloomberg survey this month, Wall Street forecasters saw 10-year yields reaching 2.48 percent by year-end before gradually rising to exceed 3 percent in 2019. The yield fell 1 basis point to 2.22 percent at 6:13 a.m. in London Tuesday.
Ken Harris, who oversees $4.5 billion as director of fixed-income portfolio management at Denver Investments, says that scenario is unlikely to pan out.
With inflation still running below 2 percent and the economy expected to grow just 2.2 percent this year, the expansion is showing few signs of returning to pre-crisis growth levels.
“The market is hung up” on the idea the run-off will drive prices lower, Harris said. Tighter monetary policy would “actually be restrictive and tightening in the face of low inflation and modest growth. It’s another signal that the Fed is a little bit ahead of itself.”
The Fed’s pullback may even spur more foreign buying. Yields on 10-year Japanese bonds remain near zero, while those on German bunds are the least attractive versus Treasuries in almost a year.
“Yes, the Fed might release some Treasuries into the market, but the demand will be there,” said Dimitri Delis, senior econometric strategist at Piper Jaffray. “Ultimately, you have to remember we have among the highest yields in the developed world.”
In other words, take all the doomsaying from Wall Street types like Jamie Dimon with a grain of salt. It might not be as bad as most people think.