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Bond Report: Aggressive Treasury selloff gives 2-year rate its biggest daily gain since 2009 and lifts 10-year yield above 2%

The 2-year Treasury yield, or rate most closely associated with the near-term path of Federal Reserve policy, had its biggest one-day gain in more than a decade after the U.S. inflation rate for January came in at a 40-year high of 7.5%.

After the data, fed-funds futures traders began aggressively pricing in the chance of a 50 basis point interest rate hike by the Fed in March, the 10-year yield rose above 2%, and fresh parts of the Treasury curve temporarily inverted. Meanwhile, the spread between 2- and 10-year rates flattened to a level not seen since 2020.

What are yields doing?

The 2-year Treasury yield BX:TMUBMUSD02Y climbed 21.4 basis points to 1.560% from 1.346% on Wednesday afternoon. That’s the biggest one-day gain since June 5, 2009, based on 3 p.m. levels, according to Dow Jones Market Data.

The yield on the 10-year Treasury note
TMUBMUSD10Y,
2.050%

rose around 10 basis points to 2.028%, up from 1.928% at 3 p.m. Eastern on Wednesday. That’s the highest level since July 31, 2019.

The spread between the 2- and 10-year rates flattened to around 47 basis points, the narrowest since 2020.

The yield on the 30-year Treasury bond
TMUBMUSD30Y,
2.327%

stood at 2.308%, up 7.6 basis points from 2.232% late Wednesday. That’s the highest level since May 21, 2021.

What’s driving the market?

The rate of U.S. inflation climbed to 7.5% last month and stayed at a 40-year high, suggesting the upward pressure on consumer prices is unlikely to relent much soon. The 7.5% surge in the cost of living in the past 12 months is the biggest since February 1982, and exceeded the 7.2% estimate of economists surveyed by The Wall Street Journal.

Read:U.S. inflation rate climbs to 7.5% after another sharp increase in consumer prices

A separate measure of consumer inflation that strips out volatile food and energy prices also rose 0.6% last month, the government said Thursday. Meanwhile, the increase in the so-called core rate over the past 12 months moved to 6% from 5.5%. That’s the highest level since August 1982. 

Fed-funds futures traders responded by raising the likelihood of a half percentage point increase in the benchmark interest rate by the Federal Reserve in March to as high as 97%, according to the CME FedWatch Tool, though the percentage changed rapidly throughout the day. That’s up from 24% a day ago.

See: ‘Blowout’ U.S. inflation leads traders to raise bets for a half-point Fed rate hike in March to as high as 83%

Meanwhile, Thursday’s government-bond selloff picked up momentum just as Bloomberg News reported Federal Reserve Bank of St. Louis President James Bullard saying he supports lifting rates by a full percentage point by July 1. His comments came roughly a half hour before a $23 billion 30-year bond auction.

Mark Hulbert: The surprising twist in what rising inflation means for the stock market

What do analysts say?

“Today’s blockbuster inflation readings follow Friday’s blockbuster employment report, in what has become an extraordinary string of data as the economy once again works through and out of pandemic-driven conditions,” said Rick Rieder, BlackRock’s chief investment officer of global fixed income, in a note.

“Now that the central bank has found itself behind the curve, we think policy needs to adjust quickly, but not necessarily too much in total amount as the Fed weighs data over time, since this would create significant risk for markets and the economy,” he wrote. “So, while the time has come (or did months ago) to move policy persistently and aggressively away from overly accommodative conditions, and toward a more neutral and appropriate stance, executing on this pivot is going to be a real challenge for policy makers.”

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