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WHAT HAPPENED ON THE WAY TO 2% YIELDS on the Treasury 10-year bond? Rates suddenly stopped climbing and have slipped back to nearly 1.6%. In our opinion, there are several macro factors at play:
First, Covid is still a major headwind, with the variant surging in much of the U.S. and still persistent in Canada, Brazil, India and much of western Europe. And reports of blood clots may dissuade people from getting vaccinations — even though clots are a very, very remote risk to anyone getting a shot. An over-riding question is whether the virus can be eliminated if a third of all Americans refuse to get a shot?
Second, progress has slowed on President Biden’s massive stimulus, with Congress facing a long slog, well into summer, before passing an infrastructure package that may spend less than he prefers. Some analysts are saying that stimulus will wear off in 2022, but we have a different opinion — much of it won’t be spent this year, certainly not for infrastructure. A delayed roll-out could guard against an over-heating economy this summer.
Third, bottlenecks have persisted at U.S. ports, exacerbated by a shortage of cargo ships and labor. Long delays in unloading the ships will be a headwind for the overall economy.
Fourth, the semiconductor chip shortage is a genuine crisis in the auto industry and other sectors, an economic drag that could persist for the next year.
Fifth, inflation has not broken out, ex-food and fuel, and may stay contained until the labor market clearly tightens — which may not occur until winter. Yes, there’s a red-hot bubble in housing but overall inflation has not met the Federal Reserve’s targets.
Sixth, regulatory headwinds: The Trump era of “anything goes,” with lax Washington regulations, is over. The symbol of this change is Gary Gensler, confirmed yesterday to head the Securities and Exchange Commission. He and dozens of hard-line regulators are flooding into Washington agencies, determined to curb energy producers, banks, Big Tech — you name it.
Seventh, geopolitical jitters could keep demand strong for Treasuries, as U.S.-Russia relations plummet and prospects fade for an imminent breakthrough with China. Bonds are the safe haven if geopolitics heats up.
BOTTOM LINE: We still anticipate strong economic growth — with upside risks on inflation and a much tighter labor market by year-end. But we’re not out of the woods yet on Covid, and there are other headwinds from Washington that may keep 10-year yields from hitting 2% for a few more months.
Related: With Some Help from the Hill, Munis Could Be Back in Style
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