Maybe the forces dragging Treasury yields down aren’t so unstoppable after all.
A week after the benchmark 10-year note yield hit an all-time low, it bounced back at the most rapid pace in more than a year. Helping to upend the record rally: increasing evidence that the US economy is getting back on track. From a boost in retail sales to higher consumer prices, data this week lifted yields while reviving bets that the Federal Reserve will raise interest rates this year.
Treasuries have surged in 2016 as investors sought alternatives to sub-zero bond yields in Europe and Japan after central banks there adopted negative rates in an effort to spur economic growth. Concern that Britain’s vote to exit the European Union would slow global expansion extended the rally and pushed sovereign-debt yields to record lows. These forces have made it harder for the Fed to tighten policy despite encouraging US data, with both traders and policy makers paring forecasts for how quickly rates will rise.
As US economic reports improve, “economists out there think a December rate hike is possible - that’s not priced into the market,” said Brian Brennan, a money manager in Baltimore at T Rowe Price Group, which oversees $175bn in fixed-income assets. With duelling global and domestic forces, a “tug-of-war could create a range-bound environment, but it’s not without volatility.”
Such volatility means Treasuries may still reverse course quickly, particularly if new global concerns emerge. Reports of a coup effort in Turkey late Friday caused 10-year notes to pare the day’s losses. The benchmark 10-year note yield rose 19 basis points this week, or 0.19 percentage point, to 1.55% as of 5pm Friday in New York, according to Bloomberg Bond Trader data, its largest weekly jump since June 2015. It set a record-low closing level of 1.36% on July 8. The price of the 1.625% security due in May 2026 was at 100 21/32 of face value.
Yields climbed to the highest since June 24, the day after the Brexit referendum, as US economic data are now beating analysts’ predictions by the most in 18 months. Citigroup’s US Economic Surprise Index, which measures whether data beat or miss forecasts, rose to the highest since January 2015.
Commerce Department figures released on Friday showed a 0.6% increase in June retail receipts, which exceeded the highest estimate in a Bloomberg survey. A measure of core consumer prices, which excludes volatile food and fuel costs, rose 0.2% for a third month.
Futures prices indicate a 44% probability of a Fed rate increase this year, up from 20% a week earlier. The Federal Open Market Committee is scheduled to next meet July 26-27. Almost all other major central banks are under pressure to increase stimulus to boost economic growth and inflation, providing support for sovereign bonds. Economists from JPMorgan Chase & Co and Goldman Sachs Group predict the Bank of Japan will take action on July 29, while the Bank of England signaled Thursday it’s ready to loosen policy next month.
The recent rise in US yields came even as hedge funds and other large speculators boosted net bullish bets on 10-year Treasury futures to the most since April 2013 in the week ended July 12, according to data from the Commodity Futures Trading Commission.
Some strategists have grown more cautious after the record Treasuries rally coincided with stocks rising to all-time highs.
“It’s entirely possible for all assets to get richer, but in what context will bonds sell off?,” said Aaron Kohli, a fixed-income strategist in New York at BMO Capital Markets, one of 23 primary dealers that trade with Fed. “In the near term you can get a little bit of selloff,” he said, but beyond that global investor appetite “really takes center stage.”