Yields give back earlier plunge, focus on Fed rate path

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NEW YORK — U.S. Treasury yields gave back

most of an earlier drop on Wednesday as investors evaluated how

high the Federal Reserve is likely to raise rates when it meets

in September, after data showed inflation gains stalled in July.

U.S. consumer prices were unchanged in the month due to a

sharp drop in gasoline prices, delivering the first notable sign

of relief for Americans who have watched inflation climb over

the past two years.

The Consumer Price Index (CPI) rose by an annual rate of

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8.5% in July, while the core CPI, which excludes volatile food

and energy costs, gained 5.9%.

The drop in Treasury yields immediately after the data

indicates traders were expecting a rise in inflation.

“The downside miss is certainly not something the markets

were positioned for, I think the market was really one way

positioned for a higher inflation print and higher Fed pricing,”

said Gennadiy Goldberg, an interest rate strategist at TD

Securities in New York.

The inflation report came after investors ramped up bets

that the Fed would be more hawkish following data on Friday

showing that U.S. job growth unexpectedly accelerated in July.

“The combination of (nonfarm payrolls) and CPI for July

leave the 75 bp vs. 50 bp Sept hike debate alive and well.

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Moreover, this means volatility around incoming data will remain

elevated,” Ian Lyngen, head of U.S. rates strategy at BMO

Capital Markets said in a note.

Fed funds futures traders are now pricing in a 42% chance

that the U.S. central bank will hike rates by 75 basis points

when it meets in September, compared to 68% earlier. A 50 basis

point increase is seen as a 58% probability.

Benchmark 10-year note yields fell as low as

2.67%, before bouncing back to 2.79%. Two-year note yields

got as low as 3.08%, before rebounding to 3.22%.

The yield curve between two-year and 10-year notes

was at minus 43 basis points after earlier

reaching minus 56 basis points, the deepest inversion since

2000.

Expectations for the Fed could change again, with more

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inflation and employment data for August due before the Fed’s

September 20-21 meeting.

“We’ve only gotten one out of two CPI prints before then and

we’ve got another payroll print as well and a full set of data

effectively for August, so I think the jury’s still very much

out on September,” Goldberg said.

Chicago Fed President Charles Evans said on Wednesday that

the inflation data was the first “positive” reading on price

pressures since the Fed began tightening policy, but added that

he believes the Fed has plenty more work to do.

Minneapolis Fed President Neel Kashkari also said he still

believes the U.S. central bank needs to raise its policy rate to

3.9% by year-end and to 4.4% by the end of 2023 to fight

inflation. [Neel Kashkari ]

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The Treasury saw good demand for a $35 billion sale of new

10-year notes on Wednesday, the second auction of $98 billion in

new coupon-bearing supply this week.

The notes sold at a high yield of 2.755%, around a basis

point below where they had traded before the auction. Demand for

the was 2.53 times the amount of debt on offer, the best ratio

since February.

The Treasury saw solid demand for a $42 billion sale of

three-year notes on Tuesday and will auction $21 billion in

30-year bonds on Thursday.

August 10 Wednesday 3:01PM New York / 1901 GMT

Price Current Net

Yield % Change

(bps)

Three-month bills 2.545 2.5971 -0.036

Six-month bills 2.9675 3.0545 -0.091

Two-year note 99-150/256 3.2183 -0.068

Three-year note 99-238/256 3.1497 -0.066

Five-year note 99-48/256 2.9267 -0.053

Seven-year note 98-128/256 2.8638 -0.035

10-year note 100-184/256 2.7901 -0.007

20-year bond 99-136/256 3.2822 0.038

30-year bond 96-180/256 3.0441 0.039

DOLLAR SWAP SPREADS

Last (bps) Net

Change

(bps)

U.S. 2-year dollar swap 27.25 2.00

spread

U.S. 3-year dollar swap 9.75 1.75

spread

U.S. 5-year dollar swap 3.25 0.75

spread

U.S. 10-year dollar swap 4.50 -0.25

spread

U.S. 30-year dollar swap -31.00 -1.00

spread

(Editing by Emelia Sithole-Matarise, Jane Merriman and Josie

Kao)