Bond Report: U.S. government bonds rally on trade jitters, dovish Fed minutes

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Treasury prices rose, pushing yields lower, on Thursday to extend their rally after trade concerns and minutes from the Federal Reserve’s recent meeting stoked appetite for U.S. government paper.

What are Treasurys doing?

The 10-year Treasury note yield

TMUBMUSD10Y, -0.52%

fell 2.2 basis points to 2.981%, pushing below the key 3% level, according to WSJ Market Data Group. The 30-year bond yield

TMUBMUSD30Y, -0.89%

fell 3.8 basis points to 3.130%.

The 2-year note yield

TMUBMUSD02Y, +0.32%

sensitive to shifting expectations for monetary policy, was down 1.6 basis points to 2.512%. The maturity slid 4.2 basis points on Wednesday, its largest one-day drop in 11 weeks.

Bond prices move in the opposite direction of yields.

What’s driving markets?

Trade fears are back on the agenda, stoking demand for haven assets and government bonds, after President Donald Trump said he would consider raising tariffs on imported cars to up to 25% through national-security laws. This would pit the U.S. against its major allies like Japan and Germany, which are leading car exporters.

Trump also said he was canceling the planned June 12 Singapore summit with North Korean leaders. He warned North Korea about the U.S. “massive” nuclear capabilities, saying the U.S. was ready to respond to “foolish” acts.

Though the minutes from the Fed’s May 1-2 meeting were released on Wednesday, traders continued to digest their implications for monetary policy. With a growing consensus that the minutes show policy makers are taking a more dovish approach, some say this should see the central bank act less aggressively even if inflation does overshoot its 2% target. Traders in the fed fund futures market trimmed the chance of a fourth rate increase this year to 41.2% from around 51% the week before, according to CME Group data.

See: Trump administration mulls tariffs of up to 25% on auto imports

The bond market took down the last of the Treasury auctions this week. Investors showed strong appetite for the $30 billion 7-year note bond sale, with indirect buyers, a proxy for foreign demand, snapping up a 65.5% share, above the average of 63.5% in the last six auctions.

What did market participants say?

“As with the beginning of 2018, bond market views still divide into three, roughly equal camps. The first is the most vocal – the Fed is behind today and when it catches up rates will really return to normal,” said Jim Vogel, interest-rate strategist at FTN Financial.

“Next group sees higher rates until inflation is held in control, basically whatever it takes from monetary policy to keep it under 2.1%. This idea provides the impetus behind the unusual degree of curve flattening at the long end. But when the second group hears a cascade of hawkish Fedspeak, it pulls away from Treasurys and rates rise due to momentum selling from vocal true believers. That’s what drove rates from late April through last week – the first two groups were in sync. Now, if the Fed is not worried about inflation rising on a sustained basis, there is no rush to a 3.5% target,” said Vogel. “Oh and the third group of agnostics? They remain content to earn higher rates and wait for additional information, say from emerging market distress for example.”

What’s on investors’ radar?

Senior Fed officials sounded off on the eventual neutral interest rate, the rate at which monetary policy neither stimulates nor slows the economy. The current fed-funds rate is 1.50% to 1.75%.

Atlanta Fed President Raphael Bostic said the neutral rate lied around 2.25%-2.75%, in an interview with CNBC. Dallas Fed President Robert Kaplan said the central bank could raise interest rates four more times before hitting the neutral rate.

Initial jobless claims rose 11,000 to 234,000 for the seven days ending in May 19. Existing home sales for April ran at an annual pace of 5.46 million in April. Economists surveyed by MarketWatch had forecast a 5.50 million pace.

What are other assets doing?

The 10-year German government bond yield

TMBMKDE-10Y, -6.55%

 was down 2.9 basis points to 0.469%. German debt often serves as a barometer of investors’ perception of the eurozone’s viability.

The 10-year Italian bond yield

TMBMKIT-10Y, -0.51%

was down 1.7 basis points to 2.400%, while the Spanish 10-year yield

TMBMKIT-10Y, -0.51%

fell 5.0 basis points to 1.394%.

Sunny Oh is a MarketWatch fixed-income reporter based in New York.

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