This week, the U.S. bond market experienced intense volatility. What will be the next development?

Traders in the U.S. Treasury market have not experienced the kind of volatility seen in the past week for several months. Over the past five days, the benchmark 10-year U.S. Treasury yield has experienced an unusually large range of fluctuations, with the market feeling strong volatility. According to the financial news app Zhitong Finance, strategists at Morgan Stanley pointed out that some factors causing investor anxiety, such as U.S. labor market data and the unwinding of popular arbitrage trades, may continue to be market focus in the coming weeks. On the other hand, participants in the $27 trillion Treasury market will closely monitor whether further unwinding of arbitrage trades will create more downward pressure on the stock market, as well as whether the August non-farm payroll report released on September 6th will confirm the labor market weakness indicated in the July data released last Friday. Participants in the bond market will also focus on the Consumer Price Index for July to observe whether it will pave the way for the Fed to cut interest rates in September. According to Morgan Stanley's analysis, investors are still nervous about the Fed potentially making a larger-than-usual 50 basis point rate cut next month, emergency rate cuts, and a faster pace of rate cuts. Morgan Stanley's interest rate strategists Gennadiy Goldberg, Jan Nevruzi, and Molly McGown wrote in a report, "Over the past two weeks, the U.S. bond market has experienced a perfect storm of volatility: inflation has shown further signs of slowing, geopolitical risks have made investors uneasy, and Fed Chairman Powell has hinted at a rate cut starting in September." They stated, "Subsequently, the Japanese market experienced huge volatility, the unwinding of arbitrage trades led to a sharp decline in global stock markets, exacerbating risk aversion in the interest rate market." As the market gradually regains some stability, investors may continue to focus on the unwinding of arbitrage trades, labor market and economic growth data, inflation, and geopolitical risks in the coming weeks. At the beginning of this week, traders expected a chaotic situation, accompanied by heightened risks of economic recession, as only 114,000 new jobs were added in July. However, the chaos quickly gave way to rising confidence in the economy, leading to fluctuations in the 10-year U.S. Treasury yield within a range of over 30 basis points, as bond market participants oscillated between emotions. On Monday, the yield fell to 3.782%, the lowest closing level since July 19, 2023. During the New York trading session, the yield briefly fell below 3.67% due to risk aversion in government debt, increased speculation about an emergency rate cut by the Fed, and the unwinding of arbitrage trades. Arbitrage trading is a strategy of borrowing low-yielding currencies (such as the Japanese yen) to invest in high-yielding assets. The next day, the ICE BofAML MOVE Index - a measure of expected interest rate volatility in the U.S. bond market - jumped to levels not seen since January 3, as investors were shaken by expectations of further Fed rate hikes Subsequently, concerns about economic recession eased, leading to bond market sell-offs on Wednesday and Thursday, accompanied by weak demand in two U.S. Treasury auctions. On Thursday, the benchmark yield intermittently rose above 4%, closing at a weekly high of 3.997%. However, on Friday, with reduced trading volume, the market experienced volatility again, as some U.S. Treasury buyers entered the market after such intense fluctuations. McGown from Morgan Stanley stated over the phone, "This week's trading largely focused on unwinding the previous week's volatility, including a strong reaction to the July non-farm payroll report and the Fed's policy update last Wednesday." Market sentiment shifted from "preparing for a hard landing last week to now potentially expecting a softer landing than anticipated." On Friday, U.S. Treasury yields fluctuated, with the 10-year yield at 3.943%. Strategists at Morgan Stanley noted that they expect the 10-year yield to end the year at 3.4% and 3% next year, but "yields may have moved too fast and too far." They stated, "We continue to lean towards buying on dips, but prefer to wait for more favorable levels before re-entering long positions."