TREASURIES-Yields rise as Fed officials vow to fight hot inflation

BY Reuters | ECONOMIC | 09/30/22 04:45 PM EDT
    (Corrects paragraph 9 to say July 2003, not July, and to add
monthly and quarterly timeframe)
    By Herbert Lash
       NEW YORK, Sept 30 (Reuters) - Treasury yields rose on
Friday in a volatile week rocked by a Bank of England
intervention that sent bond prices soaring only to later slip
after a raft of Federal Reserve officials insisted U.S. interest
rates will stay higher for longer.
    A U.S. Commerce Department report on Friday showed inflation
running at a red-hot pace, providing the Fed little scope to
ease a rate-hiking regime that has lifted U.S. borrowing costs
faster this year than at any time since the 1980s.
    Excluding volatile food and energy, the personal consumption
expenditures price index jumped 0.6% in August after being
unchanged the prior month. The core PCE price index rose 4.9% on
a year-on-year basis after rising 4.7% in July.
    The market is concerned about the pace of inflation and how
fast it declines, said Andrzej Skiba, head of the BlueBay US
fixed income team at RBC Global Asset Management.
    "We need inflation coming down because in the absence of a
meaningful move lower, the Fed will be unable to pivot policy
and support markets even in the face of recession," Skiba said.
    At the end of a quarter when investors readjust portfolios,
the PCE reading took back stage to a market in wait-and-see mode
as it looks to the release of the U.S. consumer price index on
Oct. 13. The BoE's unexpected move also is still being assessed.
    "The market is still trying to make sense of the extent of
collateral damage from the UK dislocation and any forced selling
of assets and what that means for the broader risk complex,"
Skiba said.
    Just before the BoE's intervention on Wednesday, the yield
on the 10-year Treasury briefly shot to a 12-year high of
4.004%. But it later plunged that day more than 26 basis points
to 3.707%, its biggest single-day drop since March 2009.
        Rates have risen so fast the 10-year's yield rose about
69 basis points in September, the biggest monthly gain since
July 2003. Over the third quarter, the yield rose about 86 basis
points, the largest quarterly rise since June 2009.

    On Friday, the two-year's yield, which typically
moves in step with rate expectations, rose 8.8 basis points to
4.258%. The gap between two- and 10-year yields, a
recession harbinger, eased back a bit to -43.9 basis points.
    Fed Vice Chair Lael Brainard said the U.S. central bank will
need to maintain higher rates for some time and must guard
against lowering them prematurely. She was the latest Fed
official this week to hawk the high rate message.
    "Monetary policy will need to be restrictive for some time
to have confidence that inflation is moving back to target," she
said in prepared remarks for a conference in New York.
    The market and consumers too believe the Fed will be able to
control inflation, but more important is how resilient can the
consumer be as the economy slows, said Priya Mishra, head of
global rates strategy at TD Securities.
    "Our thought is that the consumer is going to slow down into
year end and into next year and then it will become really
tricky for the Fed," Mishra said. "They are warning us of pain,
but how much pain will they really tolerate, what is that
threshold? The market is trying to figure that out."
    The Fed last week raised its median forecast for core PCE
inflation to 4.5% this year from its previous estimate of 4.3%
in June. Its estimate for core inflation in 2023 was boosted to
3.1% from the previously projected 2.7% in June.
    The yield on 10-year Treasury notes rose 7.6
basis points to 3.823%, and the 30-year yield added
8.3 basis points to 3.776%.
    The breakeven rate on five-year U.S. Treasury
Inflation-Protected Securities (TIPS)
was last at 2.166%, the lowest rate since February 2021.
    While data shows inflation still to high, the market has
lowered its expectations.
    The 10-year TIPS breakeven rate was last at
2.146%, indicating the market now sees inflation averaging about
2.2% a year for the next decade. The rate has declined from more
than 2.6% five weeks ago.
    The U.S. dollar five years forward inflation-linked swap
, seen by some as a better gauge of inflation
expectations due to possible distortions caused by the Fed's
quantitative easing, was last at 2.176%.
    Sept. 30 Friday 4:19PM New York / 2019 GMT
                                               Price        Current   Net
                                                            Yield %   Change
 Three-month bills                             3.205        3.2749    -0.039
 Six-month bills                               3.8375       3.9661    0.051
 Two-year note                                 99-252/256   4.2581    0.088
 Three-year note                               97-226/256   4.2708    0.083
 Five-year note                                100-56/256   4.076     0.097
 Seven-year note                               99-104/256   3.973     0.090
 10-year note                                  91-64/256    3.8226    0.076
 20-year bond                                  90-88/256    4.0894    0.090
 30-year bond                                  86-40/256    3.7769    0.084

                                               Last (bps)   Net
 U.S. 2-year dollar swap spread                 25.50        -3.00
 U.S. 3-year dollar swap spread                  6.00        -0.75
 U.S. 5-year dollar swap spread                  4.50         0.00
 U.S. 10-year dollar swap spread                 4.25         0.00
 U.S. 30-year dollar swap spread               -43.00        -0.50

 (Reporting by Herbert Lash; Editing by Jonathan Oatis, Andrea
Ricci and Marguerita Choy)

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