US 10 year yields
The bond market is usually the first to figure things out but even it’s struggling with the political turmoil and economic uncertainty right now.
Notably, long dated Treasury yields jumped in the immediate aftermath of the debate on June 28 in a signal about a Republican sweep coupled with further tax cut and a deficit running around 6.5% of GDP for the next five years.
Then the market had a rethink. Whether that was due to cross-currents, the still-long timeline before the election or the likelihood of Biden dropping out is debatable. BMO thinks the market is also factoring in the second-order effects of a Republican sweep:
Recall in the wake of the Biden/Trump debate, the
Treasury market bear steepened on supply/reflation concerns. Once the initial
dust settled, the kneejerk response to improved Trump odds appears to be a bear
flattener – the logic being that any rebound of inflationary pressures will
slow the FOMC’s normalization (i.e. cutting) process during the latter part of
2025 and beyond. We suspect the first order response to a Biden withdrawal
would be incrementally bond friendly and most likely still a steepener. Simply
a reversal impulse.
To translate this into FX, the takeaway would be:
- Trump positive = dollar bullish
- Biden/Democrat positive = dollar bearish
I’m on board with this thinking but I wouldn’t get carried away with the idea that it will dominate markets. Also, the most-underappreciated race in 2024 is the House. Betting sites put Democrats only narrowly behind for House control despite all the turmoil and that could quickly turn and lead to a split Congress and the inevitable gridlock that comes with it.
Another thing to keep in mind is that bond seasons are constructive for the next few weeks, meaning the bias in yields is to the downside. None of this is happening in a vacuum and the outlook for the economy and inflation is in flux.