U.S.: Fed is not alone in buying Treasuries

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U.S. Watch

In February economic forecasters were quite up beat about the economic outlook. At the time, incoming data were on balance consistent with an acceleration of economic growth. However, statistics released in March quickly started to point to less momentum, a trend that extended in April. By mid month, it was evident that the U.S. economy was hitting a soft patch in Q1. The extent to which reported data were weaker than generally expected over that period is captured by the Citigroup Economic Surprise Index. The rolling three-month index, calculated daily, has contracted significantly since the first week of March and it is still loosing ground. For many, the weakness in reported data and the apparent dovishness of key Fed officials largely explain why 10-year Treasuries closed last week yielding only 3.15%. Obviously, these factors are at play. However, we think it is worth noting that foreign central banks have been hefty buyers of US securities more recently. From April 6 to May 4^th, holding of securities held in custody at the Fed for foreign official and international accounts have jumped by more than $51 billion. This did happen while the Fed was proceeding with its large purchases of Treasuries, adding more than $80 billion to its own bonds portfolio. While all the stars appear to have been aligned to pull bond yields lower, it remains to be seen for how long hefty demand from central banks will last. For one, the Fed will be done with QE2 by the end of June. In that context, our belief that GDP will rebound above 3.5% in Q2 make us sceptical about the sustainability of the recent bond rally.

 

Source: National Bank Financial Group, Paul-André Pinsonnault, Senior Fixed Income Economist