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Treasury Yields Surge in Massive Rejection of Post-Fed Gains

By: Elizabeth Stanton and Michael MacKenzie

Bond traders pushed Treasury yields sharply higher on Thursday as they anticipate the Federal Reserve will keep policy rates elevated well into 2023.Longer-dated tenors led the climb, including the 10-year note which rose 18 basis points to the highest level since 2011. The selloff erased gains posted after Wednesday’s Fed decision to raise the policy rate for a fifth time, a three-quarter-point increase aimed at throttling inflation. The prospect of additional hikes stoked recession fears.

Thursday’s selloff had additional authors including comparable price action in the UK bond market, a heavy slate of new corporate bonds for the first time this week, an auction of Treasury inflation-protected securities later in the day and speculation that Japan’s intervention to support the yen might entail selling of Treasuries. Exits from profitable yield-curve flattening wagers, eroded liquidity and piling-on were also cited as drivers. But mainly, traders faulted the initial reaction to Wednesday’s rate hike and outlook.

“If the US Fed terminal is heading to 4.5% to 5%, then the US 10-year needs to be open to 3.75% to 4%,” said Gregory Faranello, Head of U.S. Rates Trading & Strategy at AmeriVet Securities. “Ultimately, the entire curve is shifting higher. And needs to. The Fed is saying higher, and higher for longer. So inversion remains a key theme,” but the anticipated peak “is
meaningful to absolute long-end rates along the way.”

Traders have gravitated to the long-end of the Treasury curve, anticipating the central bank’s tightening will eventually cause a recession. New forecasts released by the Fed Wednesday showed policy makers, on average, expect their rate to peak at around 4.6%, compared with a long-run neutral level of 2.5%.

Earlier Thursday, the 30-year bond’s yield was 34 basis points lower the five-year note’s, its deepest inversion since 2000 and an incentive to exit curve-flattening wagers. The 10-year note’s yield was 58 basis points lower than the two-year note’s, within a basis point of the most since 2000.

Thursday’s yield increases left those curve spreads less inverted, as two-year yields climbed only as much as 11 basis points to 4.16%. The move didn’t materially change markets pricing for the Fed policy rate’s path in 2023, with swaps still implying cuts next year.

While government bonds sold off globally, the US rout was exceeded in the UK, where 10-year yields as much as 22 basis points to 3.527% after the Bank of England tightened rates by a half-point.

A spate of block trades in Treasury futures also contributed to the selloff.

–With assistance from Edward Bolingbroke and William Selway.