Wall Street Banks Amass Treasuries Signaling Faith in Rate Cycle

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Wall Street’s biggest bond dealers are amassing the most Treasuries since March last year in a sign they’re confident the Federal Reserve’s tightening cycle will proceed in an orderly fashion.

JPMorgan Chase & Co., Citigroup Inc. and the 20 other companies that trade with the Fed increased their holdings for a fourth week to a net $69 billion, in data reported Thursday. Traders see an almost 60 percent chance of the first rate increase since 2006 coming in September after a Labor Department report Friday showed U.S. employers added more than 200,000 jobs in July and wages increased.

Investors have been encouraged by Fed Chair Janet Yellen’s stated intention to raise interest rates at a gradual pace, which has been backed by the collapse in oil prices. Regulatory requirements for banks to hold more high-quality assets have also contributed to the jump in primary-dealer Treasury holdings of Treasuries, according to Barra Sheridan, a rates trader at Bank of Montreal in London.

“The rate path will be very, very, slow and gradual,” Sheridan said. Fed officials “are not going to be embarking on an aggressive tightening cycle. People don’t mind buying Treasuries at these levels because they are still attractive on a global basis.”

Benchmark U.S. 10-year note yields fell three basis points, or 0.03 percentage point, to 2.19 percent as of 11:19 a.m. New York time, according to Bloomberg Bond Trader data. The 2.125 percent security due in May 2025 rose 9/32, or $2.81 per $1,000 face amount, to 99 14/32.

Bund Yield

Treasuries slipped 0.1 percent this week through Thursday following three straight weekly gains, according to the Bloomberg U.S. Treasury Bond Index.

Primary dealers added $27.2 billion to their Treasuries holdings in the week to July 29, the biggest increase since October, data reported Thursday show. On July 21, the Volcker Rule came into full effect, although it excludes Treasuries and some other government securities. The legislation restricts proprietary trading at banks for other assets and typically makes it more expensive for them to warehouse debt in the expectation that clients will want to buy it.

Yellen said in congressional testimony last month she expects the central bank to raise its benchmark rate this year, while emphasizing the pace of increases will probably be gradual. U.S. benchmark borrowing costs will increase by about 64 basis points over the next year, according to market-implied policy rates.

Labor Data

Employers added 215,000 jobs in July, following a 231,000 increase the previous month, according to a Labor Department report. Average hourly earnings climbed 2.1 percent from a year earlier.

Crude oil has tumbled more than 50 percent in the past 12 months, while consumer prices in the U.S. increased 0.1 percent in June from a year earlier.

Tumbling inflation expectations have also stoked demand for longer-maturity Treasuries. The gap between two- and 30-year yields compressed to the narrowest since April Friday.

The yield difference between two-year notes and similar-maturity Treasury Inflation Protected Securities, a gauge of trader expectations for consumer prices over the life of the debt, touched a six-month low of 0.58 percent Thursday.

“Treasuries have enough yield to cover a gradual rise in rates,” said Roger Bridges, chief global strategist for interest rates and currencies at Nikko Asset Management in Sydney. “With the fall in commodity prices, that takes off pressure from the long end.”

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