Sovereign bonds under pressure as traders prepare for Fed rate rise

Government bonds were under pressure on Wednesday as traders braced for the US Federal Reserve to raise interest rates aggressively and central banks worldwide moved to tighten monetary policy to battle inflation.

Australia’s 10-year bond yield rose more than 0.2 percentage points to as much as 3.57 per cent, according to Tradeweb data, as the price of the debt fell significantly. The nation’s central bank on Tuesday lifted its main interest rate by a larger than expected 0.25 per cent — its first such move in more than a decade.

Germany’s 10-year Bund yield touched almost 1.04 per cent in early European trading, before settling back to 0.99 per cent, after European Central Bank policymaker Isabel Schnabel told German publication Handelsblatt that a July rate rise was “possible”.

Bond yields move inversely to their prices and can rise when expectations of higher rates on cash make the instruments’ fixed income payments less appealing.

“Australia started the gun on a week where we have more important central bank meetings,” said Brooks Macdonald chief investment officer Edward Park, referring to the Fed’s impending decision as well as an anticipated Bank of England rate rise on Thursday. “It was a firm reminder that bond markets can be caught off guard.”

In another outsized rates move, the yield on the 10-year Indian bond raced 0.26 percentage points higher to 7.4 per cent. The Reserve Bank of India on Wednesday announced a 0.4 percentage point rate rise — the first change in more than two years.

Italy’s equivalent bond yield added 0.11 percentage points to 2.96 per cent, around its highest since early 2020.

Later on Wednesday, the US central bank is expected to announce its first 0.5 percentage point rate rise since 2000. Futures markets are pricing half-point rises at the Fed’s subsequent meetings in June, July and September.

The annual pace of consumer price inflation in the US hit 8.5 per cent in March, as energy and food costs surged in response to Russia’s invasion of Ukraine. Eurozone inflation is running at a record high of 7.5 per cent.

Analysts expect the Fed to also formalise how it will shrink its $9tn balance sheet, which ballooned during the coronavirus crisis as the central bank bought bonds at unprecedented rates, suppressing debt yields and increasing investors’ appetite for speculative assets. In April, as speculation built about the world’s most influential central bank rapidly reversing its pandemic-era support, Wall Street’s technology-heavy Nasdaq Composite share index dropped 13.3 per cent.

“There are some quite hawkish expectations for the Fed, including concerns in the market that they may open the door to 75 basis point [0.75 per cent] rate rises in the future,” said Cosimo Marasciulo, head of fixed income absolute return at fund manager Amundi.

The yield on the 10-year US Treasury note rose 0.04 percentage points to 2.99 per cent. The 10-year yield, a marker used by investors and lenders worldwide to value financial assets from shares to mortgages, stood at 1.7 per cent just two months ago.

In equities, Wall Street’s blue-chip S&P 500 index opened flat and the technology-focused Nasdaq Composite slipped 0.2 per cent lower.

Europe’s regional Stoxx 600 index fell 0.4 per cent after Brussels proposed a ban on Russian oil, sending Brent crude almost 4 per cent higher to $109.05 a barrel.