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    1. Weekly Bond Bulletin

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    Bond Bulletin

    GFICC Investors

    Opinions, estimates, forecasts, projections and statements of financial market trends are based on market conditions at the date of the publication, constitute our judgment and are subject to change without notice. There can be no guarantee they will be met.

    09 June 2023

    Done with the debt ceiling drama, now onto the TGA

    With the US debt ceiling crisis behind us, we ask what the draining of the Treasury General Account (TGA), and its needed replenishment, could mean for the US economy and for fixed income investors.

    Fundamentals

    The TGA is the account at the Federal Reserve (the Fed) that the US Treasury uses to pay the country’s bills, funded by tax receipts and the sale of US Treasury debt. The Treasury generally strives to maintain a balance in the TGA “to cover one week of net outgoing payments”, subject to a minimum of ~$150 billion. Due to the debt ceiling chaos, the TGA was run down to a balance of $49 billion (as of 31 May 2023). With the Treasury expecting to bring the balance back up to $600 billion by the end of September, some analysts estimate it could take about $850 billion in net Treasury bill (T-bill) issuance over the four-month period to make good the shortfall. Importantly, the TGA sits on the Fed’s balance sheet as one of three large liabilities, along with bank reserves and reverse repurchase agreements (RRPs). Considering that the Fed is currently in a phase of quantitative tightening and is not expected to be a large buyer of these new T-bills, the replenishment of the TGA needs to be balanced by either a drain in banks’ excess reserves or out of RRPs. Draining banks’ reserves at the Fed can create a problem in the financial system, reducing liquidity and subsequently the ability of banks to lend. The question for the market is how much of this T-bill issuance will be bought by money market funds switching out of cash deposited with the Fed’s RRP facility. The lower the take-up from money market funds, the more likely the TGA rebuild will need to be offset by a fall in banks’ excess reserves. As excess reserves are not distributed uniformly across the banking system, the risk is that a tightening in financial conditions could spark poor performance in risk assets, similar to that seen in late 2018.

    The TGA needs to be rebuilt, which could potentially have an impact on reserves and subsequently risk assets

    Source: Bloomberg, Federal Reserve; data as of 31 May 2023.

    Quantitative Valuations

    The bond market has repriced, with yields rising in the past few weeks. The two-year Treasury yield, at 4.56% as of 7 June, reflects the market’s expectation of one more 25 basis points (bps) rate hike from the Fed in July. The first 25bps rate cut is now expected by December, with the second cut in late spring 2024. Should the TGA rebuild be offset by a sharp fall in banks’ reserves at the Fed and a tightening in broader financial conditions, the bond market is likely to move to price in a faster cutting cycle, which would be consistent with falling bond yields.

    Technicals

    The yield on the three-month T-bill, at 5.29% as of 7 June, is currently attractive compared to the 5.05% yield on the Fed’s RRP facility. However, the duration of the three-month T-bill is much longer than the overnight duration of RRPs. Demand for T-bills from money market funds will therefore depend on the willingness of money market funds to extend duration. With the market currently pricing a 33% chance of a June rate hike (as of 7 June), and with almost a full 25bps hike priced in for July, next week’s US inflation data and the Fed’s rate setting meeting will be key for giving money market fund managers comfort that the Fed is near the end of its hiking cycle.

    What does this mean for investors?

    While the impact of the TGA rebuild on both financial markets and the real economy remains uncertain, we believe that funding the TGA out of the Fed’s reserves could spark a risk-off market environment. Additionally, while a recession remains the market’s consensus view, there is no consensus on the timing. In this environment, we continue to favour a longer duration, higher quality fixed income allocation as the positive carry remains appealing. On the currency side, we expect the TGA rebuild to be positive for the US dollar.

    About the Bond Bulletin

    Each week J.P. Morgan Asset Management's Global Fixed Income, Currency and Commodities group reviews key issues for bond investors through the lens of its common Fundamental, Quantitative Valuation and Technical (FQT) research framework.

    Our common research language based on Fundamental, Quantitative Valuation and Technical analysis provides a framework for comparing research across fixed income sectors and allows for the global integration of investment ideas.

    jpm_am_web_exp-icon_macroeconomic_b200_card_850x240

    Fundamental factors

    include macroeconomic data (such as growth and inflation) as well as corporate health figures (such as default rates, earnings and leverage metrics)

    jpm_am_web_exp-icon_stocks_g200_card_850x240

    Quantitative valuations

    is a measure of the extent to which a sector or security is rich or cheap (on both an absolute basis as well as versus history and relative to other sectors)

    jpm_am_web_exp-icon_stability_y200_card_850x240

    Technical factors

    are primarily supply and demand dynamics (issuance and flows), as well as investor positioning and momentum

    NOT FOR RETAIL DISTRIBUTION: This communication has been prepared exclusively for institutional, wholesale, professional clients and qualified investors only, as defined by local laws and regulations. The views contained herein are not to be taken as advice or a recommendation to buy or sell any investment in any jurisdiction, nor is it a commitment from J.P. Morgan Asset Management or any of its subsidiaries to participate in any of the transactions mentioned herein. Any forecasts, figures, opinions or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production. This material does not contain sufficient information to support an investment decision and it should not be relied upon by you in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit and accounting implications and determine, together with their own professional advisers, if any investment mentioned herein is believed to be suitable to their personal goals. Investors should ensure that they obtain all available relevant information before making any investment. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Both past performance and yield are not a reliable indicator of current and future results. J.P. Morgan Asset Management is the brand for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. This communication is issued by the following entities: in the United Kingdom by JPMorgan Asset Management (UK) Limited, which is authorized and regulated by the Financial Conduct Authority; in other European jurisdictions by JPMorgan Asset Management (Europe) S.à r.l.; in Hong Kong by JF Asset Management Limited, or JPMorgan Funds (Asia) Limited, or JPMorgan Asset Management Real Assets (Asia) Limited; in Singapore by JPMorgan Asset Management (Singapore) Limited (Co. Reg. No. 197601586K), or JPMorgan Asset Management Real Assets (Singapore) Pte Ltd (Co. Reg. No. 201120355E); in Taiwan by JPMorgan Asset Management (Taiwan) Limited; in Japan by JPMorgan Asset Management (Japan) Limited which is a member of the Investment Trusts Association, Japan, the Japan Investment Advisers Association, Type II Financial Instruments Firms Association and the Japan Securities Dealers Association and is regulated by the Financial Services Agency (registration number “Kanto Local Finance Bureau (Financial Instruments Firm) No. 330”); in Korea by JPMorgan Asset Management (Korea) Company Limited; in Australia to wholesale clients only as defined in section 761A and 761G of the Corporations Act 2001 (Cth) by JPMorgan Asset Management (Australia) Limited (ABN 55143832080) (AFSL 376919); in Brazil by Banco J.P. Morgan S.A.; in Canada for institutional clients’ use only by JPMorgan Asset Management (Canada) Inc., and in the United States by JPMorgan Distribution Services Inc. and J.P. Morgan Institutional Investments, Inc., both members of FINRA/SIPC.; and J.P. Morgan Investment Management Inc.

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