Yields Flatten QE2 Critics With Curve Showing Fed End to Stimulus in Sight
The Federal Reserve in Washington
Melissa Golden/Bloomberg
The U.S. Federal Reserve in Washington.
The U.S. Federal Reserve in Washington. Photographer: Melissa Golden/Bloomberg
Dec. 15 (Bloomberg) -- John Brynjolfsson, chief investment officer at Armored Wolf LLC, talks about the likely impact of the $858 billion tax-cut compromise, Federal Reserve monetary policy and U.S. fiscal policy on the economy. He speaks with Matt Miller and Carol Massar on Bloomberg Television's "Street Smart." (Source: Bloomberg)
Dec. 17 (Bloomberg) -- Steven Englander, head of Group of 10 currency strategy at Citigroup Inc., discusses the outlook for currencies and the impact of the Federal Reserve's policy of quantitative easing on the dollar. Englander talks with Mark Crumpton on Bloomberg Television's "Bottom Line." (Source: Bloomberg)
Dec. 14 (Bloomberg) -- Jeremy Siegel, a finance professor at the University of Pennsylvania’s Wharton School, talks about the Federal Reserve's policy of quantitative easing and the prospects for the U.S. economy and inflation. Fed officials kept their plan to expand record monetary stimulus, saying in a statement today that the economic expansion hasn’t been strong enough to reduce joblessness. Siegel talks with Carol Massar and Matt Miller on Bloomberg Television's "Street Smart." (Source: Bloomberg)
Government bonds are falling the most in a year as the gap between yields on longer-term Treasuries show that the Federal Reserve’s second round of quantitative easing may be its last.
The difference between 10- and 30-year yields shrank to 1.05 percentage points, or 105 basis points, on Dec. 15 from a record 1.60 points on Nov. 10, the fastest contraction since the 1980s, according to data compiled by Bloomberg. The shift in the so-called yield curve is taking place as Bank of America Merrill Lynch index data show U.S. bonds due in 10 years or more lost 4.64 percent this month, trimming 2010’s gain to 8.37 percent.
Flattening usually foreshadows the end of Fed interest-rate cuts aimed at stimulating growth. U.S. reports this month showed rising retail sales, higher consumer confidence and a jump in industrial production after the central bank expanded its balance sheet to an unprecedented $2.39 trillion, pumping money into the financial system. It’s adding $600 billion more purchasing Treasuries through so-called quantitative easing to keep the economy from deflating.
“A peak in the yield spread between 10s and 30s signals the end of an easing cycle,” said Steven Wieting, managing director of economic and market analysis at Citigroup Inc. “It’s part of a recovery and improved growth expectations. If the outlook is for a stronger recovery, then QE would be limited and they may not expand beyond it.”
Weaken the Dollar
While Chinese Premier Wen Jiabao and John Boehner, a Republican from Ohio and the next speaker of the House of Representatives, said Fed Chairman Ben S. Bernanke’s policy would weaken the greenback and add to instability, market measures are signaling a strengthening economy with contained inflation.
The Standard & Poor’s 500 Index has climbed 5.37 percent this month, reaching a two-year high. Yields on speculative- grade corporate bonds fell last week to within 5.4 percentage points of Treasuries, the slimmest margin since November 2007. The U.S. Dollar Index has appreciated 2.9 percent since Nov. 12, the day the Fed began buying Treasuries.
Economists at New York-based JPMorgan Chase & Co. raised their growth forecast this month for the first half of 2011 to 3.8 percent from 2.8 percent.
Bill Gross, who oversees the $250 billion Total Return Fund, the world’s biggest bond fund, at Pacific Investment Management Co. in Newport Beach, California, said in October that asset purchases by the Fed probably mean the end of the 30- year rally in bonds. The firm said in a filing with the U.S. Securities and Exchange Commission in Washington last week that the fund may invest in equity-linked securities for the first time since 2003.
Rising Yields
“We expect there can be additional growth in the economy,” said David Glocke, who manages about $171 billion as head of taxable money-market investments at Vanguard Group Inc. in Valley Forge, Pennsylvania. “That’s contributing to the flattening bias.”
Yields on 10-year notes rose one basis point last week to 3.33 percent. The price of the benchmark 2.625 percent note due November 2020 fell 2/32, or 63 cents per $1,000 face amount, to 94 2/32, BGCantor Market Data show. Yields on 30-year bonds increased by the same amount, to 4.44 percent, as the 4.25 percent security due in November 2040 declined 1/8 to 96 27/32.
Ten-year notes yielded 3.34 percent and 30-year yields were 4.44 percent at 5:27 p.m. in New York.
Monthly Loss
Treasuries of all maturities have lost an average of 2.02 percent in December, according to Bank of America Merrill Lynch indexes. The last time U.S. government debt fell more than this month was in December 2009, when they tumbled 2.64 percent as reports showed a slowdown in job losses and the Fed said economic conditions had improved “modestly.”
The Fed said last month it will focus about 86 percent of its purchases in notes due in 2.5 years to 10 years, making the so-called long bond the security that most closely reflects market sentiment in the yield curve, which plots Treasuries rates from the shortest to the longest maturities.
Last week, the extra yield investors demand to hold 10-year notes over 2-year debt reached the widest since February after President Barack Obama extended tax cuts that are expected to spur growth and increase deficits. The gap increased for a third week, rising to 272 basis points on Dec. 17 from 268 basis points on Dec. 10, according to Bloomberg data. The spread touched 289 basis points on Dec. 15, the widest since Feb. 23.
The difference between 10- and 30-year yields is still more than double the average of about 29 basis points over the past three decades.
Fed History
In 1992, the spread peaked at 109 basis points in October, a month after Alan Greenspan’s Fed cut the target rate for overnight loans between banks to 3 percent. By the time the central bank began raising borrowing costs in February 1994, the curve had narrowed to about 46 basis points.
Then in 1998 the gap reached about 58 basis points one month before the Fed reduced rates in November for the third time that year. When the central bank started boosting its target in June 1999, it was about 12 basis points. The difference was 97 basis points in March 2004, three months before the Fed tightened monetary policy for the first time since 2000. The curve had completely flattened by the time the Fed stopped in June 2006.
While a flatter yield curve signals shrinking concerns about inflation, the rout in Treasuries may show increasing realization that the improving U.S. economy is raising prices.
Inflation Measures
The Labor Department said Dec. 14 that wholesale costs rose 0.8 percent in November, the most in eight months, led by increases in gasoline, heating oil and fruit. A day later it said consumer prices excluding food and fuel jumped 0.8 percent from a year earlier, matching the biggest increase since September 2004.
“Bernanke has to be confident that for now we are avoiding deflation,” John Brynjolfsson, who oversees about $362 million of assets as chief investment officer at Aliso Viejo, California-based hedge fund Armored Wolf LLC, said in a Dec. 15 interview on Bloomberg Television.
Quantitative easing will last through June as part of a plan to “promote a stronger pace of economic recovery” and keep prices stable “over time,” the Federal Open Market Committee said in a statement Dec. 14.
Consumption Rises
The Commerce Department will say this week the core personal consumption expenditures index, which strips out food and energy costs, rose 0.9 percent in November from a year earlier, according to the median estimate of 23 economists surveyed by Bloomberg. The Fed has said it would prefer that measure of inflation to increase at a 1.6 percent to 2 percent rate.
The difference between yields on 10-year notes and Treasury Inflation Protected Securities widened to 2.36 percentage points on Dec. 16, up from 1.47 percent in August and the most since May 4. The so-called break-even rate is the annual rate of inflation that traders expect over the life of the bonds.
Employers added 39,000 jobs in November, after 172,000 the prior month, Labor Department figures showed even as the jobless rate rose to 9.8 percent, the highest since April.
“The important thing is increased economic growth, decreased risk aversion, that’s all good for the economy,” Jeremy Siegel, a professor of finance at the University of Pennsylvania’s Wharton School, said in a Bloomberg Television interview on Dec. 14. “Interest rates from a historical standpoint are still very low.”
To contact the reporter on this story: Susanne Walker in New York at swalker33@bloomberg.net
To contact the editor responsible for this story: Dave Liedtka at dliedtka@bloomberg.net
Rate These Stories
Rate this Page