Fed speculation drives 10-year Treasury yield past 3%

Investors placing bets on whether central bank will boost tapering

Dec 27, 2013 @ 2:51 pm (Updated 2:59 pm) EST

10-year yield, Treasury, interest rates, Federal Reserve, economy

Treasury 10-year yields touched the highest level in more than two years as signs of a quickening economic recovery boosted bets the Federal Reserve will keep reducing monthly debt purchases.

The benchmark yield rose above 3% for the first time in three months before fluctuating as investors weighed the Fed's decision last week to reinforce its commitment to low interest rates while starting to cut bond-buying in January. Citigroup Inc.'s Economic Surprise Index climbed Thursday to the highest since October, signaling an improving economy.

The Fed is “gradually pulling back, which means the market will pull back from its distorted levels,” said Guy Haselmann, an interest-rate strategist at Bank of Nova Scotia in New York, one of 21 primary dealers that trade directly with the U.S. central bank. “I expect a slow drift to 3.25% by the end of the first quarter.”

The 10-year yield traded little changed at 2.99% at 12:13 p.m. New York time, according to Bloomberg Bond Trader prices. It rose three basis points, or 0.03 percentage point, earlier to 3.02%, the highest since July 26, 2011. The yield has climbed 10 basis points since Dec. 20 in its sixth straight weekly increase, the longest stretch in more than six months. The price of the 2.75% security maturing in November 2023 was 97 30/32.

'OTHER SIDE'

“People wanted to look at the other side of 3% and see if there were stop-loss orders” that would have propelled yields higher should investors have rushed to sell securities that had fallen in price, said William O'Donnell, head U.S. government-bond strategist at primary dealer RBS Securities Inc.. Investors place stop-loss orders to automatically sell assets when a threshold is reached.

The two-year note yield fell two basis points to 0.39%. The security, which isn't included in the Fed's monthly program of asset buying, headed for a fifth weekly decline, the longest since September.

Treasury trading volume at ICAP, the largest inter-dealer broker of U.S. government debt, slid to $72.7 billion Thursday, the lowest since Dec. 24, 2012. This year's daily average is $310 billion.

U.S. government securities have lost 3.3% this year, according to the Bloomberg U.S. Treasury Bond Index. That compares with a 0.3% loss by the Bank of America Merrill Lynch Global Broad Market Sovereign Plus Index.

Treasuries traded at almost the cheapest level in more than two years, based on the term premium, a model that includes expectations for interest rates, growth and inflation. The gauge was at 0.62%, after reaching 0.63% on Sept. 5, the least expensive since May 2011, according to a Columbia Management model. The current reading is above the average of 0.21% over the past decade and shows investors see bonds as close to fairly valued.

The policy-setting Federal Open Market Committee said after its Dec. 17-18 policy meeting it will begin reducing its $85 billion of monthly asset purchases in January amid “growing underlying strength” in the economy.

The Fed will lower the buying in $10 billion increments over the next seven meetings before ending the program in December 2014, according to the median forecast in a Bloomberg survey of 41 economists on Dec. 19.

RATE BETS

The odds of policy makers increasing their benchmark interest-rate target by January 2015 are 24%, based on data compiled by Bloomberg from futures contracts. The chance was 11% at the end of November.

The Fed said last week it “likely will be appropriate to maintain the current target range for the federal funds rate well past” its 6.5% jobless-rate threshold, especially if inflation stays below the Fed's 2% target. The benchmark rate has been in a range of zero to 0.25% since December 2008.

(Bloomberg News)