Centre stage will be April consumer price inflation on Wednesday, forecast to ebb from March rates that were the highest since 1982. Federal Reserve officials, who raised rates by a half point this week and set a June 1 date to begin reducing holdings of Treasuries, will be out in force discussing their approach to inflation. Meanwhile, the Treasury’s biggest month of debt sales for the May-to-July financing quarter kicks off with auctions of 3-, 10- and 30-year debt.
Even if none of those provides a logical impetus for higher yields, liquidity has deteriorated, making the Treasury market more susceptible to big shifts. Bloomberg’s US Government Securities Liquidity Index, which measures the average yield error for notes and bonds maturing in at least a year, approached its highest level of the year Friday. The two-year yield’s range exceeded 25 basis points for the third time this year on the day of the Fed meeting.
“This is a once-in-decade moment in capital markets,” said James Camp, director of fixed-income at Eagle Asset Management. Correlations are rising and “cross-asset volatility is incredible. We have nowhere to hide.”
A weekly survey of Treasury investors by JPMorgan Chase & Co this week found a historically high level of risk-avoidance; neutral positioning was at its highest level since March 2020.
The surge in yields was led by real, or inflation-protected, notes and bonds, an indication that tightening financial conditions rather than inflation expectations were the primary driver. It accompanied steep declines for US equities that sent the Standard & Poor’s 500 Index to the lowest level in nearly a year.
For shorter-maturity Treasuries like two- and five-year notes, exceeding the 2018 highs would mean returning to levels last seen before the 2008 financial crisis. For the benchmark 10-year, its 2018 peak of 3.25% was the highest level since 2011.
The two-year yield this week peaked at 2.85%, within 26 basis points of its 2018 high. The five-year reached 3.08%, two basis points from 2018 levels. The 10-year yield’s 19-basis-point increase to 3.13% was overshadowed, though, by the 27-basis-point increase in the 10-year inflation-protected yield, from just below 0% a week earlier.
The real yields on Treasury Inflation-Protected Securities have climbed as the Fed’s posture has bolstered confidence that rates in consumer price growth have peaked. Five-year TIPS yields rose more than 150 basis points in 40 trading days through May 3, the fastest pace since 2008.
The April CPI report is expected to show an overall decline in the annual pace of inflation to 8.1% from 8.5% in March. For core prices, which exclude food and energy, a drop to 6% from 6.5% is forecast.
Fed policymakers, in their statement announcing last week’s rate move – the first half-point increase since 2000 – said they were “highly attentive to inflation risks.” And while short-term interest-rate markets are priced for the policy rate to rise to 3.25% next year from the current range of 0.75% to 1%, it’s not clear how their course may be influenced by the lagged effects of tightening on the economy. Already, US fixed 30-year mortgage rates have climbed to 5.27%, their highest point since 2009.
