NEW YORK: The margin between US shorter-dated and longer-dated Treasury yields shrank to its smallest in a decade on Friday, based on traders' expectations that the Federal Reserve would increase short-term interest rates further and long-term inflation would stay tame.
A wave of yield curve-flattening trades emerged after Fed policymakers released their latest outlook on Wednesday and projected three interest rate increases in 2018.
Moreover, Fed Chair Janet Yellen said at her last news conference as the head of the US central bank that policymakers had upgraded their US growth forecasts but stuck with their inflation view even as they considered a possible tax cut from Washington.
"That sparked the extra kicker for curve flatteners the last couple of days," said Thomas Roth, head of US Treasury trading at MUFG Securities America in New York. "People are very comfortable with holding long-dated paper."
The yield spread between five-year and 30-year Treasuries contracted to 52.80 basis points, a level last seen in October 2007. It later ticked up to 53.1 basis points, compared with 56.6 basis points on Thursday, Reuters and Tradeweb data showed.
The five-year and 30-year yield gap has narrowed by 60 basis points since late December.
Asset managers have been building their curve flattening positions in the futures market in recent weeks, while leveraged funds have taken the opposing trade - curve steepeners, where they bet longer-term yields would rise faster than short-term yields, according to the latest Commitment of Traders data from the Commodity Futures Trading Commission.
"We haven't seen the end of this (flattening) dynamic. It could go to zero," said Craig Bishop, lead strategist of US fixed income strategies at RBC Wealth Management in Minneapolis.
The yield curve flattened during a mild selloff in US government debt as optimism about the passage of the federal tax cuts helped push the S&P 500 stock index to a record high.
Hopes of higher spending and investment from lower taxes overshadowed mildly weaker-than-forecast data on industrial output and business activity in New York state, traders and analysts said.
The yield on benchmark 10-year Treasury notes was 2.360 percent, up over 1 basis point from late on Thursday.
The two-year yield rose 3 basis points to 1.840 percent, short of the more than nine-year peak of 1.852 percent set on Wednesday.
On the other hand, the 30-year yield touched 2.690 percent, its lowest since Sept. 8.
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