Treasury Yields Leap as Traders Accelerate Fed Rate Liftoff Bets
(Bloomberg) -- Yields on long-term Treasuries surged the most in 18 months as traders brought forward their expectations for the first hike by the Federal Reserve to the end of 2022 following a hawkish policy meeting.
Yields on 30-year Treasuries jumped as much as 14 basis points, the most since the onset of the pandemic crisis in March 2020, to 1.95% Thursday. The implied yield of the December 2022 fed fund futures contract has increased about 6 basis points over the past two days to 0.29%, suggesting a quarter-point rate increase by then was fully priced. Investors had previously expected the Fed to start liftoff in early 2023. Overnight index swaps are giving almost even odds of a hike by the September 2022 meeting.
Traders boosted their rate wagers in the wake of Wednesday’s Fed meeting, which was viewed as hawkish after Chair Jerome Powell said the central bank could begin scaling back asset purchases in November and complete the process by mid-2022. New quarterly projections in the so-called dot plot also favored that view, with nine of 18 officials now seeing a rate hike next year, up from seven in June. The median dots suggest the federal funds rate may rise to 1% in 2023, and to 1.75% in 2024.
The decline in Treasuries is part of a global bond selloff as central banks move to reduce pandemic stimulus. The Bank of England on Thursday raised the prospect of increasing interest rates as soon as November to contain a surge in inflation, a move that sent the yields on 10-year gilts up 10 basis points to 0.9%. Norway delivered the first post-crisis hike among Group-of-10 countries, and officials signaled an accelerated cycle to come.
“Today’s bearish price action in Treasuries is one of those classic moves that simultaneously has no obvious explanation and all the justification in the world,” Ian Lyngen, a strategist at BMO Capital Markets, wrote in a note to clients. He listed a number of factors that could contribute to the yield spike, including a bounce in stocks, limited contagion from struggling China Evergrande Group, repricing of Fed expectations as well as bond selloffs in Europe.
The rise in the long-bond yields reversed the recent trend of flattening in the yield curve. The difference between five-year and 30-year yields rose 4 basis points to 99 basis points, after narrowing Wednesday to the tightest level since July.
In the TIPS market, the 10-year security briefly pared some earlier losses after a $14 billion auction of the notes drew solid demand, only to resume the decline late in the afternoon. Yields on 10-year TIPS rose 8 basis points to a two-month high of minus 0.89%.
For now, the bond selloff vindicated Treasury bears who have said that yields are too low to reflect the economic fundamentals. JPMorgan Chase & Co.’s survey showed a net 20% of its clients are betting against Treasuries. Primary dealers surveyed by Bloomberg News predict on average that 10-year rates will rise to 1.69% by year-end, from the current level of 1.4%.
While investors have raised near-term projections for rate hikes, further-out wagers are well short of those indicated by the Fed. Euro-dollar futures traders are pricing in about five hikes through 2024, compared with seven increases implied by the Fed’s dot plot. That suggests yields have room to rise to converge to the Fed’s view, said Subadra Rajappa, head of U.S. rates strategy at Societe Generale.
“The market still hasn’t fully bought into the Fed’s hawkish dot plot,” said Rajappa on Bloomberg TV. “That catch-up will happen over time.”
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