Goldman Spots A "New Bond Market Conundrum"

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by Tyler Durden
Thursday, Jan 06, 2022 - 02:40 PM

Back in 2005, then-Fed chair Alan Greenspan described the unexpected flatness of long-dated Treasury yields during the Fed's hiking cycle of the early 2000s as a conundrum." Well, according to Goldman Sachs, a new bond market conundrum is emerging, and just like two decades ago, whereas the upcoming tightening by the Fed will impact the front-end of the curve it will do little to push the back-end higher.

As Goldman's rates strategist Praveen Korapaty writes in a new research note published today, while the bank now anticipates stronger upward pressure on 2y yields and as a result has revised up its 2022 year-end forecast for 2Y yields higher by 20bps to 1.35%, as a result of Goldman's economists projecting 3 hikes by the end of 2022 (and a steady 3 hikes per year pace thereafter), the bank has left its year-end projections for 5s, 10s, and 30s unchanged at 1.8%, 2.0%, and 2.25% respectively "on account of the markets reluctance to price a higher terminal policy rate this cycle."

Cutting to the punchline, Goldman says that there are two possible explanations for this reluctance: i) a widely prevalent low terminal rate view, or ii) that the price signal is distorted by supply/demand imbalance. Goldman believes the latter explanation is the more compelling one, "but one that will take time (and some rate hikes) to resolve, leaving the long end relative sticky over the course of the year even as front end yields reprice materially higher, resulting in a reprisal of then Chair Greenspans 2004-06 bond market conundrum (albeit at lower levels)." Instead, the bank expects most of the selloff in intermediate and longer term rates to be driven by a (relatively parallel) shift higher, and by real yields (for a discussion of the sharp move in real rates observed in just the past few days, see "The Surge In Real Yields Is The Story So Far In 2022, But What Does It Mean") .