Treasury Yield Gap to Peers Shrinks to One-Month Low on Growth

  • Traders cut bets on rate move this year to 36%, futures show
  • Tightening path to be most gradual in history: Fed's Williams

Treasury 10-year notes offered the smallest yield premium in more than a month versus their Group-of-Seven peers on concern growth in the U.S. economy is slowing.

The extra yield benchmark U.S. debt pays compared with the average for Canada, Japan, Germany, France, Italy and the U.K. fell to 0.9 percentage point on Tuesday, the least since Sept. 1, and down from this year’s high of 1.2 percentage points. Bank of America Merrill Lynch this week lowered its growth forecast for the world’s largest economy in the third quarter and for 2015, saying a strong dollar and subdued global activity have hurt manufacturing and exports.

The Federal Reserve is still poised to increase its benchmark interest rate this year though the tightening cycle will be the most gradual in the central bank’s history, San Francisco Fed President John Williams said Tuesday. The U.S. expansion slowed to 2.4 percent last quarter, from 3.9 percent in the previous three months, according to the median of forecasts compiled by Bloomberg. The estimate is down from 3 percent in July.

“The timing of the first hike will be postponed,” said Wontark Doh, head of overseas fixed-income investment in Seoul at Samsung Asset Management, which oversees $113 billion. “Concern about global growth and the lower probability of the Fed hiking mean the spread gap will be narrowing.”

The Treasury 10-year note yield climbed two basis points to 2.05 percent as of 6:47 a.m. London time Wednesday, according to Bloomberg Bond Trader data. The price of the 2 percent security due in August 2025 fell 6/32, or $1.88 per $1,000 face amount, to 99 1/2. The move brought the U.S. yield premium to 92 basis points in Asian trading.

The government will sell $21 billion of 10-year securities Wednesday, and $13 billion of 30-year bonds on Oct. 8.

Shifting Outlook

The benchmark 10-year yield will probably rise to 2.10 percent this year, said Park Sungjin, the Seoul-based head of investment management at Meritz Securities Co., which has $7 billion in assets. He had previously predicted an increase to 2.40 percent.

Williams said Tuesday that the Fed wants to see the economy growing at steady pace of about 2 percent. Stable expansion could be maintained with “at most” 100,000 new jobs each month, he said in the text of a speech in San Francisco.

The probability that the Fed will increase rates for the first time in almost a decade this year fell after last week’s payrolls report missed forecasts as employers added 142,000 positions in September. 

Fading expectations

The chance of a December move has dropped to 36 percent, from 60 percent at the end of August, according to futures data compiled by Bloomberg. The calculations are based on the assumption that the effective fed funds rate will average 0.375 percent after liftoff, versus the current target range of zero to 0.25 percent.

Traders are also reducing bets on the pace at which they think the Fed will raise. By the December 2016 meeting, a 65 percent chance of two or more rate hikes has been priced in; at the start of this year futures suggested such an outcome was a near certainty. 

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