(Bloomberg) — The 5- to 30-year Treasury yield curve inverted by as much as 20 basis points in US trading Thursday, a day after the 2- to 30-year spread also became the most negative in more than two decades.
Shortly before the release of mixed US economic data stopped, the five-year bond yield rose about eight basis points to about 3.68%, the highest since 2008 and 20 basis points higher than the 30-year yield at that time.
The curve was reversed by 18.5 basis points on June 14, the highest level since 2000, in a sell-off triggered by worse-than-expected inflation data that re-priced expectations of how likely the Federal Reserve is to raise interest rates.
“The flattening of the yield curve was driven by hawkish central bank rhetoric backed by stronger-than-expected CPI and resilience in other growth data,” Alex Lee, head of US interest rate strategy at Credit Agricole (OTC): said, referring to the CPI. August levels released on September 13th reactivated the trend as it caused traders to price more aggressive Fed actions.
Two to five-year Treasury yields rose to multi-year highs this week. Yields for longer maturities have risen less, Lee said, because the possibility of Fed policy rates exceeding 4% is fueling “market concerns about slowing growth towards the end of this year or early 2023.”
In conjunction with the curve reaching its maximum inversion, the expected peak in the Fed policy rate included in the swap contracts temporarily increased to 4.5%, the value of the March 2023 contract. Then it settled at about 4.45%.
The forecast peak is up a full percentage point since the Fed’s last policy meeting in July, when the range was set at 2.25%-2.5%. The upper limit of the Fed’s target range for the policy rate was raised to 4.5% in 2006.
This week’s MLIV Pulse poll focuses on the best trades ahead of the FOMC meeting. The survey is brief and we do not collect your name or any contact information. Please click here if you would like to share your views.
August CPI data led the market to raise the benchmark rate by another three-quarters of a point on September 21, the Fed’s next decision date, and give some prospects for a full point increase. The US central bank has raised interest rates four times since March in response to accelerating inflation. The price increases come on the heels of a two-year period when the minimum was 0%.
The cascading forecast is for the policy rate to fall by about half a point from its peak level next year, indicating that economic conditions are likely to warrant a Fed rate cut during this time frame.
But in interest rate options trading on Thursday, there was demand for structures that expect the policy rate to reach 4.5% at the end of next year.
Thursday’s reversal to 20 basis points lasted only briefly amid mixed economic data including a sharper-than-expected drop in the Philadelphia Fed Business Expectations Index for September.
(Adds additional market activity in the sixth and ninth paragraphs.)
© Bloomberg LP 2022