Bond Markets' Calm Isn’t Because Trump's Agenda is Gone

The recent retreat in the 10-year U.S. Treasury yield from its peak of 4.8% earlier this month has sparked speculation across the bond market. Many attribute this easing to President Trump’s relatively quiet return to the White House, with no significant moves on the tariff front during his first week back in office.

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While Trump has kept the possibility of imposing 25% tariffs on imports from Mexico and Canada as early as February 1, he has also floated a potential 10% tariff on Chinese imports—well below the 60% level he mentioned during his campaign. These threats remain in the background but have not materialized into immediate action, contributing to a period of relative calm in the markets.

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Another factor at play is the belief that U.S. government bonds may have been oversold in recent months. Yields on longer-term Treasurys, such as the 10-year note, climbed steadily from September as the Federal Reserve began cutting interest rates. The recent pullback in yields, therefore, could simply be a natural correction after a prolonged rally.

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However, a more critical narrative emerged during a week when Treasury yields showed little movement: the current calm might be a prelude to a storm. According to Ed Perks, a portfolio manager at Franklin Templeton, markets remain on edge, anticipating potential disruptions stemming from Trump’s policies. He pointed to the president’s repeated promises of mass deportations of undocumented immigrants as a potential flashpoint.

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“We could wake up one morning to reports of significant raids, which could unsettle the market,” Perks said. He emphasized that investors still face several unresolved issues, such as immigration and tariffs, which could inject volatility into the market.

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Despite the unease, U.S. equity markets managed to post solid gains during Trump’s first week back in office. The Dow Jones Industrial Average, S&P 500, and Nasdaq Composite all closed lower on Friday but still achieved strong weekly performances, hovering near record levels.

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This optimism was tempered, however, by signs of heightened uncertainty. Perks noted that his team has positioned their portfolios for 2025 with a diversified mix of stocks, bonds, and highly liquid assets like Treasurys. This approach ensures flexibility, enabling them to liquidate up to 10% of their portfolios if necessary without hesitation.

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Chris Diaz, co-head of the global taxable fixed-income team at Brown Advisory, voiced concerns about the potential for the 10-year Treasury yield to revisit the 5% mark. This level was last seen in October 2023, coinciding with a sharp pullback in the stock market. Diaz’s primary worry isn’t tied to tariffs or inflationary pressures but rather to the implications of Trump’s tax-cutting agenda and other fiscal measures that could exacerbate the already substantial U.S. debt burden.

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“There’s a $2 trillion deficit as far as the eye can see,” Diaz remarked, “and that doesn’t include potential tax cuts or unfunded stimulus measures requiring additional Treasury issuance.” This ballooning deficit poses risks to the bond market as it could necessitate increased borrowing, further driving up yields.

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Looking ahead, Diaz expects the Federal Reserve’s upcoming press briefing on Wednesday to address its independence. This follows Trump’s recent comments suggesting he might possess greater insight into interest rates than Fed Chair Jerome Powell and other policymakers. Such remarks have fueled speculation about the Fed’s autonomy and its ability to remain free from political influence.

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Molly Brooks, a U.S. rates strategist at TD Securities, underscored this dynamic, stating, “The Fed is transitioning from data dependency to Trump dependency.” This shift highlights the increasing pressure the central bank faces as it navigates the complexities of monetary policy under a president keen on influencing its decisions.

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In summary, the bond market finds itself at a crossroads. While the 10-year Treasury yield has pulled back from its recent highs, the underlying drivers of market volatility—tariffs, immigration policies, fiscal deficits, and political interference—remain unresolved. Investors are bracing for potential turbulence ahead, with many adopting cautious strategies to weather the uncertainties of the current environment.

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