Monthly Average KTB Issuance to Shrink in 2H21
The author is an analyst of NH Investment & Securities. He can be reached at sw.kang@nhqv.com. -- Ed.
With the market accepting the Fed’s view that high inflation will prove temporary, long-term US TB yields fell last week. However, labor market improvement will likely accelerate ahead of the end of an extra unemployment benefits program (Sep 6). In 4Q21, the TB market is to price in economic normalization, and yields should revert upward.
Fed lowers inflation expectations; employment is key now
At the June FOMC, the Fed stated that it had begun ‘talking about talking about tapering’, and it signaled a possible FF rate hike in 2023. But, we note that there is significant time left until 2023, and Chair Powell noted that ‘substantial economic progress’ (a prerequisite to tapering) has yet to be achieved. Rather than suggesting immediate tightening, the goal of June FOMC was to lower inflation expectations and to put inflation under the Fed’s control. In other words, the June meeting was a preemptive move by the Fed to avoid a steep transition into tightening.
The Fed’s preemptive move made mid/long-term inflation expectations plummet and 10y real yields shoot upwards. Inflation expectations are likely to remain stable for now, given that a rise in real interest yields tends to lower inflation expectations. Thus, the trigger for Fed’s policy change is now to be employment data, not inflation data. Accordingly, a tapering schedule will likely be announced once labor market indicators start recovering quickly.
The pace of employment recovery should accelerate ahead of the nationwide end (on Sep 6) of additional unemployment benefits. Unlike for April and May, non-farm payroll data should show surprises for July and August. After the data is released, the Fed will likely announce its tapering schedule in August or September. Noting such, we believe that US TB yields will continue to fluctuate within a range for the time being, but real interest yields look set to rise somewhat sharply on: 1) downward stabilization of inflation expectations; and 2) rising inflation premium.
Monthly average KTB issuance to shrink in 2H21
We expect US TB yield to rise, led by an increase in real yields in 4Q21. That said, KTB-US TB market decoupling will likely intensify, as: 1) 2H21 US consumption is not be focused on services, an area which is not favorable to domestic exports; 2) 10y KTB yield is already touching the potential growth rate; and 3) BOK is discussing a benchmark rate hike.
In addition, supply-demand conditions are positive. Assuming that the amount for June non-competitive bidding proves on a par with that in May, 2021 KTB issuance by end-June should reach W105.7tn (excluding inflation-linked bonds). The average monthly KTB issuance from July is to be around W4.77tn lower compared to that in 1H21. Of note, the reduction in amount of ultra-long-term (20~30y) issuance is quite sizable. Supply-demand condition issues, which have been a weakness for the KTB market, should improve gradually up until through yearend.