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Bracing for Fixed Income Turbulence

Investors are bracing for fixed income turbulence, just before the Federal Reserve (Fed) begins its next policy meeting on June 18.

As shown in the LPL Chart of the Day, Investors Rush Into Treasury Options,” the Bank of America Merrill Lynch Option Volatility Estimate (MOVE) Index has risen to its highest level since December 2016. The gauge, which measures expected volatility in Treasury prices over the next month, typically climbs as demand increases for options (or hedges) on U.S. Treasuries.

Positioning for price (and yield) volatility around macro events is common, but bonds are in an especially tenuous position ahead of this Fed meeting. Renewed trade uncertainty and rate-cut speculation have weighed on rates, pushing the 10-year Treasury yield down to a 20-month low.

Financial markets have also been extra sensitive to Fed rhetoric lately, and this meeting could include pivotal context on the future of policy. On June 19, policymakers will release a policy decision, an updated dot plot (a summary of policymakers’ rate projections), and new economic and inflation projections. Fed Chair Jerome Powell’s post-meeting press conference will also be useful in understanding the Fed’s thought process around these new projections and less quantifiable variables, like trade uncertainty.

“The rush into Treasury options that we’ve seen reflects recent anxiety in the bond market, as well as investors’ high expectations for signs of policy flexibility at this meeting,” said LPL Chief Investment Strategist John Lynch.

The last time the MOVE Index jumped this high was at the end of 2016, when the U.S. election boosted the 10-year yield more than 80 basis points (0.80%) from November to December 2016. That was an unusually sharp move for the 10-year yield, and we would be surprised to see a rally of that degree happen now. However, monetary policy is one of the primary catalysts for yield moves, and we’ve maintained that the 10-year yield is too low given economic fundamentals.

For more of our predictions for the upcoming Fed meeting, check out this week’s Weekly Economic Commentary.


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