“We think bond yields are vulnerable to a pullback.”

So said Goldman’s Praveen Korapaty in his latest weekly.

Admittedly, I’m operating in confirmation bias mode vis-à-vis the prospects for a bullish correction in bonds following a two-month selloff, but I would’ve mentioned Korapaty’s latest regardless.

Notably, he doubts the notion that September’s leg lower for bonds (higher in yields) is a function of supply jitters. “Monthly net UST coupon supply in August and September was not particularly large and was comparable to that seen in February and March of this year,” he wrote.

That’s not to say duration supply hasn’t risen. It has. But, Goldman called current levels “not too dissimilar” to the backdrop which persisted in the spring of 2022, and said tossing in IG doesn’t necessarily alter the picture.

IG supply so far this month is around $106 billion. That’s well ahead of last year, but well below 2019, 2020 and 2021, and around $20 billion short of what desks expected at the beginning of the month.

Of course, Treasury issuance is going to increase, but as Korapaty correctly pointed out, that’s not exactly new information. A “material ramp up” was probably in the price by the time summer arrived, he remarked. Besides, Goldman suspects investors “tend to overestimate supply effects.”

So, if supply jitters aren’t behind the selloff at the long-end, what is? Monetary policy, according to Korapaty, and specifically the neutral rate implications of the Fed’s “higher for longer” message, which Goldman said “appears to be getting through.”

Although the median long run dot in the updated SEP was unchanged, the median policy rate forecasts out to 2026 are all materially higher than the neutral dot suggesting that, at the least, short run r-star is higher. As Steve Liesman gently suggested to Jerome Powell last week, there’s only so far out you can project before the line between short run neutral and long run neutral gets blurry. 2026 is probably pushing it.

“This signaling by the Fed is likely serving as a catalyst for investors’ reassessment of long run equilibrium rate levels, which we have argued for over a year should be higher this cycle,” Korapaty went on, adding that medium-term forwards are now consistent with fair value, while spot 10-year yields look “somewhat elevated” after the selloff.

Given that bonds are “still pricing a relatively benign growth outlook,” yields could be set to pull back, at least in the near-term. Goldman cited “decelerating growth, and more immediately, a government shutdown that looks increasingly likely after the end of this month.”

That said, Korapaty was reluctant to endorse the idea of a rally. He’s not alone in being cautious in that regard. “Duration longs look increasingly attractive to us, though given that the magnitude of the overshoot versus fair value is not large and that there is some uncertainty about the extent of the Q4 slowdown, we refrain from adding positions at longer maturities,” he wrote.