ORLANDO, Florida, July 23 (Reuters) - TRADING DAY

Making sense of the forces driving global markets

By Jamie McGeever, Markets Columnist

A sense of euphoria washed over global stock markets on

Wednesday as a U.S.-Japan trade deal and indications of a

U.S.-Europe agreement lifted major indexes around the world,

pushing the S&P 500 and MSCI All Country to new highs.

More on that below. In my column today I look at why the

U.S. bond market has been so calm lately despite swirling fears

over tariffs, deficits and inflation. Foreign demand, especially

from the private sector, appears to have returned with a bang.

If you have more time to read, here are a few articles I

recommend to help you make sense of what happened in markets

today.

1. U.S.-Japan trade deal averts worst for global

economy

2. Japan trade deal breaks U.S. tariff template

3. EU to advance retaliation on U.S. goods as tariff

hike

looms

4. AI and gravity-defying U.S. GDP: Mike Dolan

5. U.S. stock market concentration risks come to

fore as

megacaps report earnings

Today's Key Market Moves

* S&P 500 and MSCI World hit record highs on investor

euphoria

following U.S.-Japan trade deal.

* VIX volatility index falls to a 5-month low of 15.32.

* Japan's Nikkei soars 3.5% to a one-year high above 41,000

points. Toyota shares leap 14%, biggest rise since 2008.

* Eurostoxx futures jump 2% on reports U.S. and EU

are

closing in on 15% tariff deal.

* The dollar falls for a third day, dragging the

dollar

index down towards its recent three and a half-year low.

Tracking trade - from gloom to boom

The tariff pessimism that choked markets immediately

following President Donald Trump's 'Liberation Day' in early

April seems like an age ago. The U.S.-Japan deal and signs of

progress on a U.S.-Europe accord injected buoyant stocks with a

further dose of adrenaline on Wednesday.

At first blush, the Japan deal looks to be much better than

investors had expected, with the U.S. tariff on Japanese imports

set at 15% instead of the previously threatened 25%. This

includes autos too, the largest single component of the U.S.

trade deficit with Japan.

Investors appear to be cheering the 15% rate. If this is the

level agreed upon in the U.S.-EU deal, as European diplomats

suggest, it will be half the 30% levy Trump is currently

threatening to impose. Relative to the worst-case expectations,

that's also a huge relief for markets.

At least that's how investors are trading it right now. It

remains to be seen what the longer-term tariff impact on growth,

inflation, consumer spending, and corporate profits will be.

While the tariff relief dominated markets on Wednesday,

equity investors also had the latest wave of U.S. earnings to

digest - shares in Google's parent company Alphabet fell 2% in

after-hours trading, and Tesla shares rose around 1%.

In bonds, a $13 billion auction of 20-year Treasuries was

met with strong demand, selling at nearly two basis points below

the market at the bidding deadline. This helped limit the broad

rise in yields underway on the back of the trade optimism.

It was a different story in Japan, where the first sale of

40-year debt since Sunday's upper house election defeat for

Prime Minister Shigeru Ishiba logged the weakest demand in

almost 14 years. The 40-year yield climbed towards its recent

17-year high, and the 10-year yield hit its highest since 2008.

Ishiba denied reports that he is about to resign. But

uncertainty around his future, fiscal policy and the Bank of

Japan's rate path is extremely high.

Thursday's focus will turn to the European Central Bank,

which is expected to pause after eight consecutive rate cuts and

keep its deposit rate on hold at 2.00%.

Foreign demand for U.S. Treasuries holds off bond vigilantes

So much for the bond vigilantes.

The U.S. bond market has been remarkably calm lately,

despite fears that inflation, tariffs, eroding Fed independence,

and Washington's ballooning debt load will push up Treasury

yields. What explains the resilience?

The above concerns remain valid, of course, as any one of

them could eventually cast a long shadow over the world's

largest and most important market.

But that doesn't seem to be on the immediate horizon. The

so-called bond vigilantes - those investors determined to bring

profligate governments into line by forcing up their borrowing

costs - might have been driving bond prices lower earlier this

year, but they are taking a back seat now.

The 10-year Treasury yield on Tuesday closed at 4.34%.

That's below the year-to-date average of 4.40%, and less than 10

basis points above the one- and two-year averages.

Perhaps even more surprising, implied Treasury market

volatility is hovering at its lowest levels in three-and-a-half

years, further evidence that investors have little fear of an

imminent spike in borrowing costs.

OVERSEAS DEMAND

The obvious explanation is that demand for Treasuries has

picked up, investors lured back into the market by attractive

yields on 10-year bonds approaching 5% and even juicer returns

on 30-year paper. Concern about an economic slowdown, and thus

lower interest rates, is likely adding fuel to this trend.

A lot of this demand has likely come from overseas, based on

the latest release of Treasury International Capital flows data.

Admittedly, these figures are released with a lag, but they are

among the most reliable and closely tracked of all international

flows information.

The TIC data show that the foreign official and private

sectors bought a net $146.3 billion of U.S. Treasury notes and

bonds in May on a non valuation-adjusted basis. That's the

second-highest monthly total ever. And if you include corporate

debt, agency bonds and equities, total foreign purchases of U.S.

securities in May were the highest on record.

Private sector investors accounted for roughly 80% of that

total. Their holdings of U.S. Treasuries began to outstrip

official holdings a few years ago, and that trend seems to be

accelerating. They now hold over $5 trillion, compared to the

official sector's $4 trillion.

Bank of America's U.S. rates strategy team notes that

outsized foreign private demand has also been evident in more

recent flows data, particularly from Japanese investors who have

bought more than $60 billion in overseas bonds since the start

of May.

Demand from private sector buyers like pension funds is

generally thought to be more price-sensitive than reserve

managers and sovereign wealth funds, who are more inclined to

buy and hold for the very long term.

REGULATION, STABLECOINS

Will the back end of the yield curve remain resilient?

This will obviously depend in part on what happens in the

U.S. economy. But there are a few exogenous factors that could

boost demand moving forward, including potential regulatory

changes to the U.S. banking system and the accelerated adoption

of cryptocurrency stablecoins.

First, the Fed has proposed revisions to the supplementary

leverage ratio, which would free up capital for banks to hold

more Treasuries. That could generate an estimated $1.1 trillion

in extra buying capacity.

Next, the increased use of stablecoins, digital tokens that

are pegged 1:1 to highly liquid assets like T-bills, short-dated

bonds or the U.S. dollar, could drive demand for shorter-dated

Treasuries. The House of Representatives last week passed a bill

to create a regulatory framework for stablecoins, and U.S.

President Donald Trump is expected to sign it into law soon.

HIBERNATING BEARS

Despite all this, there are still plenty of bond bears out

there with good reasons to be bearish, not least the $1 trillion

flood of new debt issuance expected before this year is out.

But what the market action in the first half of this year

has shown - filled as it has been with heightened uncertainty

around tariffs, geopolitics, deficits and the Fed - is that bond

market selloffs aren't likely to last long.

That's partly because of the lack of a true alternative. The

near-$30 trillion Treasury market is bigger than the Chinese,

Japanese, French, UK and Italian government bond markets

combined. And it is more than ten times bigger than the German

Bund market, the euro zone's premium safe-haven asset.

Underlying demand is stronger than the vigilantes have

bargained for.

What could move markets tomorrow?

* South Korea GDP (Q2, advance)

* Japan PMIs (July)

* Germany GfK consumer sentiment (August)

* Euro zone PMIs (July)

* UK PMIs (July)

* European Central Bank interest rate decision

* U.S. weekly jobless claims

* U.S. new home sales (June)

* U.S. PMIs (July)

* U.S. Treasury auctions $21 billion of 10-year TIPS

* U.S. Q2 earnings, including Newmont, T-Mobile, Honeywell

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