U.S. Bonds Recover From Early Declines
By Min Zeng
U.S. government bonds rebounded Thursday from early price declines as a pullback in stocks stoked demand for haven debt.
In recent trading, the yield on the benchmark 10-year Treasury note was 2.398%, according to Tradeweb, compared with 2.414% Wednesday, which was the highest close in more than a month. Yields fall as bond prices rise.
The S&P 500 stock index fell after setting a record high Wednesday, a sign some investors dialed back risk appetites.
Some traders said one trigger for the flight to safety trades in Treasury debt was reports that North Korea is poised for the first intercontinental ballistic missile flight test this year. The news reminded investors of the geopolitical risks that flared up in April.
The 10-year yield had risen to 2.421% in early trade as the latest sign of inflation bolstered the case for the Federal Reserve to raise short-term interest rates next month.
The producer-price index for final demand, measuring changes in the prices that U.S. companies receive for their goods and services, increased by a larger-than-forecast 0.5% in April from the prior month, the Labor Department said Thursday. From a year earlier, overall prices advanced 2.5%, the largest increase since February 2012.
Meanwhile, crude-oil prices strengthened after a recent selloff, which pushed up market-based inflation expectations.
The 10-year breakeven rate, the yield premium investors demanded to own the benchmark 10-year note relative to the 10-year Treasury inflation-protected security, rose by 0.02 percentage point to 1.9 percentage points. At this level, it suggests investors' expectations of an annualized 1.9% inflation rate in the U.S. over the next 10 years.
A rising premium suggests some investors sold Treasurys and put the proceeds into TIPS, a typical allocation when they are concerned about higher inflation.
Interest-rate futures suggest many investors expect the economy is strong enough to withstand a moderate pace of the Fed's interest-rate increases.
Fed-funds futures, used by investors to bet on the Fed's interest-rate policy outlook, showed 83% odds that the Fed would tighten monetary policy by its June 13-14 meeting, according to CME Group. The odds were 62% a month ago.
The Fed signaled in the rate statement last week that the first-quarter soft patch in the economy may be transitory, a sign the Fed's tightening campaign remains on track.
Investors typically reduce bond holdings in anticipation of tighter monetary policy because it tends to shrink the value of outstanding bonds.
Treasury yields have risen this month after a slide in April. The 10-year yield sunk to this year's low of 2.177% on April 18. The yield traded above 2.6% in mid-March.
Many investors don't expect a sharp rise in yields given the uncertainty surrounding the U.S. fiscal policy and the Fed's strategy about how to pare down its large balance sheets as another way to tighten monetary policy.
"It is a tough call now: Could the 10-year yield rise to 2.6% or move back to 2.2% again," said Charles Comiskey, head of Treasury trading at Bank of Nova Scotia. "The best option is to wait it out" as he refrains from putting large bets on yields.
Another factor keeping a lid on yields' rise, say analysts, is that U.S. bonds continue to offer much higher yields compared with government debt in Germany and Japan, attracting investors seeking relative value among the world's major bond markets.
The prospect of a contained rise in Treasury yields is likely to encourage investors to dial up risk spectrums and buy stocks, corporate bonds and emerging-market assets in a way to juice returns in a still-low yield world.
Some analysts say markets are complacent about downside risks, especially as debate is growing over whether the valuation of stocks and junk bonds are getting stretched.
Write to Min Zeng at [email protected]