Fed rates at 0% now seen within months amid global bond frenzy
The entire U.S. yield curve fell below 1% for the first time in history as rising expectations that the Federal Reserve will cut policy rates to zero in the coming months drove investors to reach for longer-dated securities.
Traders are pricing in about 80 basis points of cuts in March, and 100 basis points by July, which would drag borrowing costs down to zero. Those bets fueled a rally in U.S. Treasuries, with the rate on 30-year bonds diving as much as 59 basis points and pushing the entire yield curve below 1% for the first time ever. Benchmark U.K. bond yields tumbled below zero for the first time, Germany's two-year bonds and rates in Australia and New Zealand fell to new lows.
The latest frenzy in markets, spurred by concerns over an oil price war between Russia and Saudi Arabia, prompted the New York Fed to say it will boost the size of this week's overnight and term repo operations to ensure reserves are ample and reduce the risk of pressures in money markets.
"The more I think about it, the more it makes sense to me that the U.S. cash rate will fall below zero some time very, very soon," said Chris Rands, portfolio manager at Nikko Asset Management Ltd. in Sydney. "I wouldn't be surprised if the U.S. tries negative rates, especially with the tailspin in oil now adding to the virus fears."
Goldman Sachs Group Inc. economists said Monday that they now expect the Fed to slash interest rates back to the record low of 2015 as the U.S. economy stagnates because of the coronavirus. The Fed will cut its benchmark rate by 50 basis points when policy makers gather on March 17-18 and again at their April 28-29 meeting, Jan Hatzius, Goldman Sachs's chief economist, said in a report to clients on Monday.
The spread of the deadly outbreak and its fallout on supply chains and consumer spending have seen a dramatic repricing of global interest-rate expectations in the past month. The jolt lower in oil from the price war will sap inflation.
The stampede for Treasuries comes after a weekend dominated by crisis headlines including the oil price-war, plunging Chinese exports and Italy's virus-induced lockdown. Adding to the sense of malaise, Japan posted its biggest economic contraction in more than five years, while France said its economy may barely expand.
Risk assets plunged with the S&P 500 dropping almost 5%, whipsawing back from losses that topped 7% and triggered a trading halt. European stocks plunged by the most since 2016, putting the STOXX Europe 600 Index on course for a bear market. Commodity-linked currencies weakened, including the Norway's krone and Canada's dollar falling against the U.S. dollar. Five-year German government debt yields slid, hovering at about minus 1%.
Gains in the yen and euro weighed on the dollar, sending the Bloomberg dollar spot index to a two-month low amid concerns that more Fed cuts would hurt the greenback's appeal.
Treasuries, the world's deepest pool of haven assets, have been rallying in the past few weeks as the virus wreaked havoc across the globe. Fed Chairman Jerome Powell surprised markets last week with an emergency rate cut of 50 basis points, raising the specter that the virus fallout will be longer and worse than anticipated.
The yield on 10-year bonds dropped as much as 45 basis points to 0.31%, before rebounding to about 0.59% as of 11:59 a.m. in New York. Most of the German curve is now trading under negative 0.55%, which, together with the euro's advance, may give the European Central Bank food for thought when it decides on interest rates this week.
"We know what the financial crisis looked like, the tech wreck, but this bond rally we're seeing is just unchartered waters," said Stephen Miller, adviser at GSFM, a unit of Canada's CI Financial Group. "A global recession is now a probability, not a possibility."
On Monday, the Fed lifted the amount of temporary cash it's willing to provide markets as pressure intensifies for the U.S. central bank to tackle the risk of a worldwide credit crunch.
The movements in fed funds futures shows the market is pricing in the chance the Fed slashes rates to zero -- from a range of 1% to 1.25% currently -- by the end of the first-half of the year. The implied rate on the July contract, at about 14 basis points, aligns with the base of the Fed's target rate range being at zero in June.
Fed Boston President Eric Rosengren said Friday that policy makers should be allowed to buy a broader range of assets if they lack sufficient ammunition to fight off a recession with interest-rate cuts and bond purchases.
And money managers are expecting the Reserve Bank of Australia to turn to quantitative easing as soon as the middle of the year, while bets are increasing for the Bank of Japan to ease this month.
"The market is panicking," said Shinji Hiramatsu, a senior investment manager at Sompo Japan Nipponkoa Asset Management Co. in Tokyo. "Position adjustment, loss-cut buying and all sorts of buying are emerging. Everybody's buying Treasuries."
"The economy appears is hitting a dead-spot in March as the coronavirus spreads and as social distancing and self-quarantine measures take hold," Neil Dutta, head of U.S. economics at Renaissance Macro Research, said in a note. "We expect the Fed to cut to zero in the March meeting. This is already priced in the market. "
