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Treasury Yields Slip Below 1.5% as Inflation Fears Ebb

·3 min read

(Bloomberg) -- The 10-year Treasury yield fell below 1.5% for the first time in a month while the rate on the U.S. long bond dropped to a level unseen since early March, suggesting that the Federal Reserve’s assurances that elevated inflation is probably temporary are gaining acceptance from investors.

The yield on 10-year notes declined as much as 6.3 basis points to 1.471%, which is below closing levels since March, and remains under 1.5% after an auction of $38 billion of the notes drew strong demand. The 30-year bond yield touched 2.148%, last seen March 1. The moves come a day before the release of U.S. consumer-price data for May; the April increase was the biggest since 2009.

There was no clear catalyst for the latest move lower, suggesting a potential shift by the market’s large short base ahead of the U.S. data and a European Central Bank meeting Thursday. Confidence in predictions of an inflationary economic recovery from the pandemic has waned, though, following two months of weaker-than-forecast U.S. job creation data.

“There maybe some view in the marketplace that the Fed could be right in terms of transitory inflation,” said Larry Milstein, senior managing director and head of government debt trading at R.W. Pressprich & Co. “More investors seem to be getting on that band wagon. We also still haven’t seen the labor picture improve as much as everybody was anticipating. That’s supporting the Treasury market.”

The $38 billion 10-year note reopening drew a yield of 1.497%, compared with its 1.507% yield in pre-auction trading, a sign demand exceeded dealers’ expectations. Primary dealers were awarded 15.7% of the auction, among the lowest shares on record, as investors bought more than usual.

It was the fifth straight Treasury note auction to draw a lower-than-expected yield, a streak that historically has sent “a bullish signal” for rates over the next several weeks, Citigroup strategists said. Tuesday’s three-year note auction fared well, due in part, strategists said, to the cash glut that is keeping most U.S. short-term rates near zero and fueling demand for alternatives. Among its consequences, usage of a Fed facility for parking cash has soared to record levels this week.

Positioning for higher yields based on expectations for an inflationary economic recovery has been unprofitable over the past two months. The 10-year note’s yield peaked at about 1.77% in March and fell as low as 1.46% on May 7 after the release of of the April employment data.

The drop in yields also suggests investors expect that any move by the U.S. central bank toward tapering its asset purchases at its policy meeting next week will be incremental, even if consumer price inflation accelerates further in May, as economists expect.

“I don’t think even a slightly stronger number changes the narrative too much for the June Fed meeting, which is one where they will start to talk about talking about tapering,” wrote NatWest Markets strategist John Briggs in a note this week about the upcoming data.

The drop in yields is not confined to the U.S., with those in Germany the most negative in a month.

“Rates markets appear remarkably robust,” said ING strategists including Antoine Bouvet. “It is clear that the market is pricing in the extension of the ECB’s accelerated asset purchase pace as a base case.” The ECB’s pandemic bond-buying program targets around 20 billion euros ($24 billion) a week.

(Adds auction trend and Fed RRP usage in sixth paragraph)

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