Bond Traders Sound Inflation Alarm Amid Worst Rout Since 2001by
Ten-year breakeven rate reaches highest level since 2015
Long end of yield curve is ‘dangerous’: BlackRock’s Rieder
The rout in the fixed-income universe deepened into the worst in 15 years as traders sounded the alarm on inflation amid speculation Donald Trump’s spending pledges will boost economic growth.
Yields on benchmark 10-year Treasuries posted their steepest back-to-back weekly increase since 2001, and a bond-market gauge of expectations for U.S. consumer prices reached the highest in more than 18 months. Investors responded by demonstrating a solid appetite for an auction this week of U.S. inflation-linked debt.
The leap in yields shows investors are bracing for the prospect that Trump and a Republican-led Congress will push through some of the real-estate magnate’s pledges, which include tax cuts and investing as much as $1 trillion in infrastructure investment.
"The paradigm has shifted in terms of inflation," Rick Rieder, chief investment officer for global fixed income at BlackRock Inc., which oversees $5.1 trillion, said in an interview with Bloomberg Television. "Long-end interest rates are dangerous. Make sure you are being really careful about the long-end exposure as we saw this week."
The Treasury 10-year note yield rose 58 basis points over the past two weeks, or 0.58 percentage point, to 2.35 percent, according to Bloomberg Bond Trader data. It was the biggest climb for a similar period since 2001.
Inflation-protected debt has been a better bet in 2016. The securities, dubbed TIPS, have returned 4.8 percent this year as of Nov. 17, versus 1.5 percent for nominal Treasuries, based on Bloomberg Barclays index data.
An $11 billion sale of 10-year Treasury Inflation-Protected Securities on Nov. 17 saw the highest direct bid since January, illustrating demand from a group that includes non-primary-dealer investors that place bids with the Treasury. In the week ahead, the U.S. is scheduled to sell two-, five- and seven-year notes.
A bond-market measure of inflation expectations over the next decade peaked at 1.97 percentage points this week, the highest since April 2015. The Federal Reserve’s preferred gauge of inflation hasn’t reached its 2 percent target in more than four years.
The forces rippling through financial markets may wind up limiting the bond market’s slide. For one thing, the dollar has surged in the wake of Trump’s victory as traders anticipated Fed rate increases, promising to keep down import prices. Futures contracts indicate close to a 100 percent probability of a rate hike at the Fed’s meeting in December.
Treasuries have also cheapened up to the point where buyers may emerge. The extra yield on U.S. 10-year notes over German equivalents rose this week to the highest since 1989, according to data compiled by Bloomberg.
"The reason why the 10-year Treasury are not going to 3.5 percent is because the international demand will still be there," said BlackRock’s Rieder.
There’s also the prospect that some of Trump’s proposals may spur volatility in financial markets that fuels demand for Treasuries as a haven. During his campaign, he blamed China and Mexico for American job losses and threatened punitive tariffs on imports.
“The market is focused on the inflationary pro-business aspects of what the incoming Republican administration should be able to deliver,” said Ian Lyngen, the New York-based head of U.S. rates strategy at BMO Capital Markets, one of the 23 primary dealers that trade with the Fed. However, “the extreme of what he said should be bad for risk assets."