The yield on the US 10-year Treasury has recently reached 5%, yet the bond market has not experienced a corresponding increase in volatility. Options traders are forecasting subdued movement in 10-year Treasury rates, with current pricing for three-month options indicating approximately 79.5 basis points of annualized volatility. This reflects a cautious outlook among market participants, despite the benchmark yield’s ascent to 5%.
Strong corporate earnings are another reason
Amrut Nashikkar, head of derivatives strategy at Barclays, said the Treasury selloff is being driven less by worries about demand for US government bonds and more by the stronger economic outlook, according to Reuters. If investors become more certain that the Fed will keep rates higher for a longer period, there may be less uncertainty about the overall direction of monetary policy, analysts said. Strong US corporate earnings are also helping keep bond-market volatility under control, according to Victoria Fernandez, chief market strategist and fixed-income portfolio manager at Crossmark Global Investments. Fernandez said strong company earnings have helped investors feel more comfortable with higher Treasury yields.
One reason for the lower volatility is that investors are increasingly focused on a stronger US economy rather than only on concerns about government debt and the budget deficit. That could allow Treasury yields to remain at a higher level without moving sharply up or down, which would keep volatility relatively low. In simple terms, investors may be adjusting to higher interest rates instead of reacting to them with panic. However, there is still uncertainty about what the Federal Reserve will do at its next few meetings.
That level of expected volatility is much lower than in October 2023, when 10-year Treasury yields last approached 5%. At that time, three-month options were pricing around 134 basis points of volatility, according to Reuters. The difference shows that investors are currently less nervous about the rise in Treasury yields than they were when yields approached the same level in 2023. Even after the yield returned to 5%, rate volatility remained relatively low, showing that investors have not reacted with the same level of uncertainty seen during previous moves toward 5%.
Analysts and portfolio managers said the move in Treasury yields has been orderly rather than sudden. The selloff in Treasuries began around the Fed’s July policy meeting and, so far, has not shown signs of turning into a disorderly market move, according to analysts cited by Reuters. Nashikkar said investors have been buying options linked to short-term interest rates, where traders are more focused on how the Fed may react over the next few months. Nashikkar said the market is uncertain about the Fed’s next few decisions, but it is not pricing in a much wider or more disruptive change in the interest-rate outlook, according to Retuers. He also pointed out that the Fed does not provide forward guidance in the way investors might prefer, meaning higher volatility around individual Fed meetings is a normal feature of the market, according to his comments cited by Reuters.
