Traders work on the floor of the New York Stock Exchange, on Aug. 14, 2019.JOHANNES EISELE/AFP/Getty Images
U.S. Treasury yields advanced across the board on Thursday, as investors prepared for an earlier-than-expected rate hike and the possibility of the Federal Reserve cutting its bond holdings sooner than many initially thought.
Minutes from the last Fed meeting released on Wednesday said it might need to raise interest rates sooner than expected and also reduce its overall asset holdings to curb high inflation.
Some participants noted that it may be appropriate to start reducing the Fed’s balance relatively soon after the first hike, underscoring a big shift in policymakers’ tone over recent months as inflation has remained unexpectedly hot.
Fed funds futures imply an 80 per cent chance of a 25-basis point tightening at the March Fed meeting, and at least three rate hikes by the end of the year.
Analysts had previously thought May or June were more likely for the first rate increase in this cycle.
“We have been sort of advocating for a couple of months for a combination of rate hike and balance sheet runoffs as a way to normalize policy this time around. I think the Fed is coming around to that view,” said Subadra Rajappa, head of U.S. rates strategy, at Societe Generale in New York.
“Given that the balance sheet is over $8-trillion and we have about $5-1/2-trillion in excess liquidity in the system, it makes sense for the Fed to consider a combination of these tools to normalize policy,” she added.
U.S. 2-year yields, which track near-term rate expectations, rose to the highest since early March 2020, the start of the global spread of COVID-19, at 0.87 per cent and were last up 3 basis points on the day at 0.859 per cent.
At the long end of the curve, 30-year yields rose to an 11-week peak of 2.138 per cent, and were last up about 3 basis points at 2.115 per cent.
Benchmark 10-year yields rose to 1.7530 per cent, the highest since March 2021 and were up 3 basis points on the day at 1.7299 per cent.
U.S. data on Thursday were weak, with higher-than-expected jobless claims, wider trade deficit, underwhelming U.S. services sector index, and generally in-line factory orders.
But on a day when the Fed is the main story for bond investors, U.S. data hardly mattered.
Thursday’s moves add to a tumultuous start to 2022 for the U.S. bond market, which analysts said could be a warning shot for other asset classes, especially emerging markets.
U.S. 10-year Treasury yields have risen around 22 basis points this week, which puts them on track for their biggest weekly jump since June 2020.
U.S. 2-year yields were up 12 basis points and set for their biggest weekly rise since late 2019.
Prices of 10-year U.S. Treasury futures contracts maturing in March 2022 fell to their lowest levels since February 2020 following the minutes.
Real or inflation-adjusted yields also jumped following the minutes. On Thursday, the yield on the 10-year Treasury Inflation-Protected Securities (TIPS) rose to -0.81 per cent, the highest in just over six months.
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