Bond yields fell on Tuesday after soft U.S. economic data raised hopes that the Federal Reserve may be nearing the peak of its tightening cycle.
What’s happening
-
The yield on the 2-year Treasury
TMUBMUSD02Y,
4.043%
slipped 10 basis points to 4.010%. -
The yield on the 10-year Treasury
TMUBMUSD10Y,
3.591%
retreated 4.8 basis points to 3.587%. -
The yield on the 30-year Treasury
TMUBMUSD30Y,
3.651%
fell 2.7 basis points to 3.652%. - The 10-year to 2-year spread of minus 42 basis points means the yield remains deeply inverted, signaling an economic downturn.
What’s driving markets
Treasury yields were backing further away from recent multi-year highs on Tuesday after some soft U.S data at the start of the week encouraged traders to trim bets on aggressive interest rate hikes by the Federal Reserve.
“Weaker than expected manufacturing data from the U.S. [on Monday] was taken as a signal that rising interest rates may be having some effect on cooling demand for goods. This in turn led to hopes of a Federal Reserve pivot,” said Richard Hunter, head of markets at Interactive Investor — though he added that with inflation stubbornly high the central bank likely would need more data to consider changing course.
See: ‘We don’t need as many employees’: U.S. factories slow as rising interest rates rattle the economy
However, Tom Porcelli, chief U.S. economist at RBC Capital Markets, felt the Fed commentary had become too resolutely hawkish of late. “Just last week alone we had [Cleveland Fed president] Mester say something to the effect that rates were not coming down next year and [Fed vice chair] Brainard said something similar. In fairness, that feels far too extreme,” he said in a note.
“We continue to think this cycle will end in December and the Fed will start to unwind some of these hikes next year,” Porcelli added.
News that the Reserve Bank of Australia on Tuesday delivered a smaller-than-expected 25 basis point interest rate rise was encouraging those investors who thought central banks should at least take a pause to analyze the impact of previous increases in borrowing costs.
Markets are pricing in a 56% probability that the Fed will raise interest rates by another 75 basis points to a range of 3.75% to 4.00% after its meeting on November 2nd. Several sessions ago the probability was above 70%.
The central bank is expected to take its Fed funds rate target to 4.36% by April 2023, according to the CME FedWatch tool. Last week the so-called terminal rate was seen as high as 4.8%.
U.S. economic updates set for release on Tuesday include the job openings and quits data, alongside factory orders, all for August and all due at 10 a.m. Eastern Time.
Fed speakers include Governor Philip Jefferson at 11:45 a.m. — his first speech since joining the central bank — and San Francisco Fed president Mary Daly at 1 p.m.
Also helping to nudge yields lower are calmer conditions in the U.K. sovereign bond sector. Volatility in the gilt market a week ago – sparked by the government announcing a budget of debt-funded tax cuts – had triggered a sharp sell off across the fixed income spectrum, with benchmark U.K. 10-year yields
TMBMKGB-10Y,
spiking to a 14-year high above 4.5%.
However, gilt yields dipped 14 basis points to 3.815% on Tuesday after reports the government will follow up a U-turn on cutting the top rate of personal tax with another to bring forward the publication of a plan to reduce debt.
