US Treasury Traders are Worried Sick: US Government Shutdown, Short-term Benefit but Long-term Hidden Risks!

US Government Shutdown Imminent, Could the Decline in US Treasury Bonds Ease?

Since the Federal Reserve hinted last week that interest rates may remain high, US Treasury bond prices have plummeted and yields have continued to rise. The closing price of the overnight US 10-year Treasury yield officially broke through 4.5%, the first time since 2007, and is currently hovering around 4.528%.

However, some analysts believe that the decline in US Treasury bonds may reverse soon, as the US government may shut down on October 1.

Historically, the US government shutdown has had limited impact on the US bond market and may even provide some positive benefits. When investors need a safe haven, US Treasury bonds usually rebound.

However, in the long run, the government shutdown has planted hidden dangers, adding "uncertainty" to the financial market, highlighting the increasing polarization of US politics and even affecting daily functions, and undermining confidence on Wall Street.

In the short term, positive for US Treasury bonds

History has shown that during past US government shutdowns, it has been a positive development for US Treasury bonds, as they remain a safe haven for investors. Analysts at Wells Fargo pointed out that "during the shutdowns at the end of 1995, 2013, and 2018, the yields on 2-year and 10-year US Treasury bonds both declined."

This time, it is also likely to alleviate short-term pressure on the bond market. Since the Federal Reserve indicated last week that interest rates are likely to remain high for a considerable period of time due to the surprisingly strong performance of the economy, yields have been rising.

On Monday, US Treasury bonds continued to decline, with the 30-year bond yield rising 15 basis points to reach 4.67%, the highest level since 2011. The closing price of the 10-year Treasury yield officially broke through 4.5%, the first time since 2007.

Analysts at TD Securities, Gennadiy Goldberg and Molly McGown, stated in a report that "the shutdown is expected to weaken risk sentiment, thereby boosting US Treasury bonds, especially short-term bonds."

However, they pointed out that overall, the government shutdown is one of the multiple risks facing the US economy this autumn.

In the long run, hidden dangers are planted

Most economists expect the impact of the government shutdown to be limited, but there are currently multiple challenges such as worker strikes, resuming student loan payments, and soaring oil prices.

According to Goldman Sachs estimates, these multiple risks combined may reduce the US economic growth rate in the fourth quarter of this year from 3.1% in the third quarter to 1.3%. Futures traders have already pushed back expectations for the Federal Reserve's next and final interest rate hike from November to January next year.

In the long run, the shutdown may cast a shadow over the US bond market. This will be the fourth time in the past 10 years that the US federal government has had to take this measure, highlighting the increasing polarization of politics and even affecting daily functions, and undermining confidence on Wall Street. This uncertainty has prompted both Moody's and S&P Global to cancel their AAA ratings for the United States. Moody's also issued a warning on Monday, as confidence is wavering with the impending possibility of a government shutdown.

Boivin, an analyst at BlackRock, also pointed out that while investors may see the US bond market as a temporary safe haven, a shutdown could bring short-term gains to certain corners of the bond market. However, fiscal risks may cause concern for investors, and over time, there may be more term premiums (additional yield demanded by investors for holding long-term securities). If investors are worried about the fiscal outlook, they will not buy US bonds.