- Two-year maturity leads with steepest weekly rally since 2014
- Ten-year benchmark posts biggest weekly gain since January
Treasuries gained, sending the two-year note to its biggest weekly advance since 2014, after the Federal Reserve lowered its forecast for interest-rate increases this year, citing the potential impact from weaker global growth on the U.S. economy.
Yields on two-year notes, the coupon maturity most sensitive to Fed policy, tumbled after policy makers on Wednesday lowered their median interest-rate projection to two increases by year-end from a forecast of four in December.
Futures traders see the Fed raising its benchmark in the second half of the year, after policy makers lifted it from near zero in December. The wagers signal a contrast in the months ahead for rates expectations in other major economies, with the European Central Bank and the Bank of Japan pushing rates into negative territory. Japan’s benchmark 10-year bond surged Friday, sending yields to a record low of minus 0.135 percent.
Given global relative value, Treasury yields "could trend a bit lower from here," Rick Rieder, chief investment officer of fundamental fixed income at BlackRock Inc., said in an interview on Bloomberg Television. “You take Japanese long-end rates, German bunds and if you are an insurance company, pension fund, sovereign wealth manager that has to get yield in a portfolio, 10-year Treasuries at 2 percent are a steal relative to negative rates."
Treasury 10-year yields fell two basis points, or 0.02 percentage point, to 1.87 percent as of 4:59 p.m. New York time. They dropped 11 basis points this week. The 1.625 percent security due in February 2026 was at 97 24/32.
The yield on the benchmark two-year note fell 12 basis points on the week to 0.84 percent, for the biggest drop since October 2014.
While the extra yield that U.S. two-year notes offer over German debt narrowed to 1.31 percentage points Friday, from a 2016 high of 1.46 percentage points, it’s still higher than the average for the past 12 months, of about one percentage point.
The Fed “appears to be acknowledging that there is a limit to monetary policy divergence and it cannot go it alone in raising short rates when other central banks are easing policy,” strategists at Barclays Plc wrote in a research report. “There is scope for long-term yields in the U.S. to decline, as they look high in a global context.”
Futures traders see a 39 percent chance the Fed will raise rates by June with the probability rising to 68 percent by December. At the end of last week, traders saw closer to a 50-50 chance of a rate boost by mid-year. The calculation assumes the effective fed funds rate will average 0.625 percent after the next increase.
"The Fed may have changed its tune, but the market had already priced in a different Fed trajectory than the Fed had said they were going to do," said David Ader, head of U.S. government-bond strategy at CRT Capital Group LLC in Stamford, Connecticut. "The Fed was out of line."
By some measures, U.S. debt is expensive. The term premium, which gauges the extra compensation that investors demand to own the securities for a decade, has been negative since January. The gauge was at negative 0.27 percentage point as of March 15, and it remains close to the lowest since the 1960s, data from the New York Fed show.
That doesn’t mean yields are about to surge any time soon.
“From the Fed this week, we got a bit more of a clear suggestion that they are going to remain dovish,” said Owen Callan, a Dublin-based fixed-income strategist at Cantor Fitzgerald LP. “That should put a cap on Treasury yields for the moment. The danger of 10-year yields going toward 2 percent should now not be there for the next couple of weeks until we get more comments from various Fed speakers.”