Bond vigilantes is a great term for traders who price bonds with an eye on reality. Of course, who knows what reality will be? It can refer to the difference between the hopes and dreams of policymakers and the real impact of rate changes.
The hopes and dreams of policymakers are fourfold:
1. The rise in rates will have limited impact on the overall growth of the economy, there will be a soft landing.
2. The size of deficits do not matter. The US Treasury can issue a trillion this quarter and over $800 billion next quarter and there will not be a meaningful impact.
3. There is no need for a term premium in rates, normalization to pre-GFC levels will not happen.
4. Inflation will return to the 2% target albeit it may take some time and rates will fall accordingly.
The bond vigilantes take a different view:
1. The return to the inflation target will take longer than expected even with the current successes.
2. Fixed income is riskier than expected and the term premium will rise
3. The size of deficits do matter especially when the Fed is still following QT. There will be upward pressure on rates.
4. The rise in rates will have a stronger impact on economic growth.
The vigilantes may not impose discipline on the market. They represent a different view on reality.
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