Are Treasury Markets Signaling a Potential Fed Pivot?
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Following the release of the red-hot 9.1% CPI inflation numbers in June, the Fed’s impetus to raise rates is emboldened. Traders are now expecting a 75-basis point* rate hike at the July meeting, but signs are mounting from capital markets that an eventual pivot could be in the works. The ramifications of this would be very significant, especially for Treasury markets.
The Yield Curve Inversion
The yield* on the 2-year Treasury recently surpassed the yield on the 10-year Treasury. This means that investors are being compensated more to invest in bonds at a 2-year maturity than a 10-year maturity. Historically, a yield curve inversion means that bond markets are forecasting a recession, although it usually takes quite a bit of time before an economic contraction actually begins. But we are only one more negative GDP reading away from technically entering a recession after the -1.6% contraction from Q1.
This means all eyes are set on the Q2 GDP numbers, which are set to be released on July 28. Note that the Fed’s next meeting is July 27, just one day before. If the economy enters a recession, inflation would likely be at or near its peak. This means that the Fed’s “demand destruction” was successful, and could create bullish opportunities in long-term Treasurys. For traders looking to bet on peak-inflation and a potential recession, Direxion’s Daily 20+ Year Treasury Bull 3x Shares (Ticker: TMF) fund, which tracks 300% of the daily upside of the ICE U.S. Treasury 20+ Year Bond Index,* could provide a unique opportunity.
Below is a daily chart of TMF as of July 14, 2022:
Source: TradingView.com as of July 14, 2022.
Candlestick charts display the high, low (stick), open, and closing prices (body) of a security for a specific period.
The performance data quoted represents past performance. Past performance does not guarantee future results. The investment return and principal value of an investment will fluctuate. An investor’s shares, when redeemed, may be worth more or less than their original cost; current performance may be lower or higher than the performance quoted. For the most recent month-end performance go to Direxion.com/etfs. For standardized performance click here.
Big Energy Vibes
The main driver of inflation expectations are commodity prices, and even more specifically, Crude Oil. Energy prices have corrected in the past couple months, despite remaining elevated overall. This opens the door for inflation data to cool off in the near future, but if the bull trend resumes in energy, it would put pressure back on the Fed to keep tightening. Even though there are signs that supply chain issues are improving, renewed geopolitical tensions in Eastern Europe could push commodity prices back higher. We also have to consider that a correction in the U.S. Dollar could be a catalyst for commodities like energy to resume their bull run too. Direxion’s Daily 20+ Year Treasury Bear 3x Shares (Ticker: TMV) fund, which tracks 300% of the daily downside of the ICE U.S. Treasury 20+ Year Bond Index, could provide traders an opportunity to bet on interest rates continuing their rise.
Below is a daily chart of TMV as of July 14, 2022:
Source: TradingView.com as of July 14, 2022.
Candlestick charts display the high, low (stick), open, and closing prices (body) of a security for a specific period.
The performance data quoted represents past performance. Past performance does not guarantee future results. The investment return and principal value of an investment will fluctuate. An investor’s shares, when redeemed, may be worth more or less than their original cost; current performance may be lower or higher than the performance quoted. For the most recent month-end performance go to Direxion.com/etfs. For standardized performance click here.
The Fed’s Balancing Act Between Employment and Inflation
Seeking to tame inflation via demand destruction is a bit risky on the Fed’s part, since a recession would likely lead to a rise in unemployment. With equity markets already reeling from low liquidity, the question on the mind of traders is whether the Fed put still exists. The Fed put a play on the option term "put," is the market belief that the Fed would step in and implement policies to limit the stock market's decline beyond a certain threshold. For the moment, it appears as though inflation has taken precedence with respect to the Fed’s dual mandate of price stability and full employment, especially since the job market continues to be resilient.
Pay attention to this week’s announcements on Initial Jobless claims, July 21st, and the S&P Global U.S. manufacturing PMI report on July 22nd, for signs of unexpected improvement or deteriorating economic conditions.
For traders looking to make more concentrated bets on inflation, Direxion also offers a Daily TIPS Bull 2x Shares (Ticker: TIPL) fund, which tracks 200% of the daily upside of the Solactive TIPS ETF Index, and a Daily TIPS Bear 2x Shares (Ticker: TIPD) fund, which tracks 200% of the daily downside of the Solactive TIPS ETF Index.*
* Definitions
Basis point – equals 1/100th of 1%.
Yield – The rate of return on an investment.
ICE U.S. Treasury 20+ Year Bond Index (IDCOT204) – a market value weighted index that includes publicly issued U.S. Treasury securities that have a remaining maturity of greater than 20 years. Eligible securities must be fixed rate, denominated in U.S. dollars, and have $300 million or more of outstanding face value, excluding amounts held by the Federal Reserve. Securities excluded from the Index are inflation-linked securities, Treasury bills, cash management bills, any government agency debt issued with or without a government guarantee and zero-coupon issues that have been stripped from coupon-paying bonds. One cannot directly invest in an index.
Solactive TIPS ETF Index (SOLTIPET) – provides exposure to the iShares TIPS Bond ETF (the “iShares ETF”), which seeks to track the investment results of an index composed of inflation-protected U.S Treasury bonds, commonly known as “TIPS.” TIPS are securities issued by the U.S. Treasury that are designed to provide inflation protection to investors. One cannot directly invest in an index.
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An investment in each Fund involves risk, including the possible loss of principal. Each Fund is non-diversified and includes risks associated with the Funds’ concentrating their investments in a particular industry, sector, or geographic region which can result in increased volatility. The use of derivatives such as futures contracts and swaps are subject to market risks that may cause their price to fluctuate over time. Risks of each Fund include Effects of Compounding and Market Volatility Risk, Leverage Risk, Market Risk, Aggressive Investment Techniques Risk, Counterparty Risk, Intra-Day Investment Risk, Other Investment Companies (including ETFs) Risk, and risks specific to U.S. Government Securities. Additional risks include, for the Direxion Daily 20+ Year Bull 3X Shares, Daily Index Correlation Risk, and for the Direxion Daily 20+ Year Treasury Bear 3X Shares, Daily Inverse Index Correlation Risk, and risks related to Shorting and Cash Transactions. A security backed by the U.S. Treasury or the full faith and credit of the United States is guaranteed only as to the timely payment of interest and principal when held to maturity. The market prices for such securities are not guaranteed and will fluctuate. Please see the summary and full prospectuses for a more complete description of these and other risks of each Fund. Distributor for Direxion Shares: Foreside Fund Services, LLC.
An investment in each Fund involves risk, including the possible loss of principal. The Funds are non-diversified and include risks associated with the Funds’ concentrating their investments in a particular industry, sector, or geography which can increase volatility. The use of derivatives such as futures contracts and swaps are subject to market risks that may cause their price to fluctuate over time. Risks of each Fund include Effects of Compounding and Market Volatility Risk, Leverage Risk, Market Risk, Counterparty Risk, Rebalancing Risk, Intra-Day Investment Risk, Other Investment Companies (including ETFs) Risk, and risks specific to the securities of the Biotechnology Industry and Healthcare Sector. Companies within the biotech industry invest heavily in research and development, which may not lead to commercially successful products.
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