U.S. government bonds rally as trade-war tensions ratchet up

U.S. government bonds rallied early Tuesday as President Donald Trump threatened to impose tariffs on some $450 billion in Chinese goods, dialing up a trade conflict between the world’s largest superpowers and sending investors rushing to assets perceived as safe.

Against that backdrop, risk assets came under pressure while bond prices rose, driving yields lower.

How are Treasurys doing?

The 10-year Treasury note yield fell 3.5 basis points to 2.891%, while the 30-year bond yield  shed 3.1 basis points to 3.026%. The two-year note yield lost 2.1 basis points to 2.537%.

Bond prices move inversely to yields.

What’s driving the market?

On Monday, Trump asked his administration to identify $200 billion in goods from Beijing to be penalized by levies, with a threat of a further $200 billion if China retaliates. Those tariff measures would be on top of last week’s pledge to impose a 25% tariff on $50 billion in duties on Chinese imports, which elicited a swift in-kind response from the Asian superpower.

Escalation of a trade dispute between China and the U.S. has rattled markets across the globe, sparking a selloff in the U.S. with the Dow Jones Industrial Average threatening to post its longest losing streak since March 2017. The Dow was down more than 300 points, while the S&P   and Nasdaq   fell more than 0.7%.

Although the trade spat in its current state isn’t likely to affect global economies, investors fear that if it devolves into a full-blown tit-for-tat trade war that it could spillover into the rest of the world.

Raphael Bostic, the president of the Atlanta Federal Reserve on Monday, said the trade concerns may have thwarted some of the benefits of tax reform enacted last year in terms of getting businesses to invest.

China, a big holder of U.S. Treasury bonds, could also push tensions higher by targeting U.S. government debt, market participants said.

What did market participants say?

“So far the trade war has been confined to trade. The fear however is that it may spill over into the financial world. Specifically, China could start selling off some of its massive holdings of Treasury bonds. The country owns some $1.18tn of Treasuries, or 30% of all foreign official holdings of Treasuries, which is not to mention their holdings of agency bonds and others,” wrote Marshall Gittler, chief strategist and head of education at ACLS Global.

What else is on investors’ radar?

Beyond trade tensions, housing starts ran at an annual 1.35 million annual rate in May, an 11-year high.

St. Louis Federal Reserve President James Bullard said central bankers’ success at controlling inflation in the last three decades has contributed to the breakdown of the Phillips curve, the theory that inflation rises when unemployment pushes below its long-term rate.

How are other assets doing?

European stocks also were selling off sharply, with the Stoxx Europe 600 down 0.7%, In Asia, the Shanghai Composite  closed down 3.8%, hitting its lowest level since April, while the Nikkei 225 index  slid by 1.8%.

Meanwhile, other assets that tend to draw buying during times of market turmoil were rising, with the Japanese yen a traditional haven currency, surging 0.5% against the dollar to ¥109.96.

In Europe, Germany’s 10-year government bond often viewed as a proxy for the health of the eurozone, fell 3.3 basis points to 0.365%.