Worries over inflation and the Federal Reserve raising interest rates knocked US Treasury prices lower on Friday for a fifth straight day, as a surprisingly weak payroll reading failed to halt the market's decline. This week's heavy market sell-off brought Treasury yields to their highest level since last spring, when there was optimism over a rapid economic recovery after the global credit crisis and the worst recession in 70 years.
The political turmoil in Egypt kept traders glued to their televisions and computers, but it took a backseat to concerns over inflation and the direction of Fed policy. "There is quite a bit of inflation fear given concerns that the Fed may be too slow to take back accommodation. I think core inflation is heading higher, but not into territory that will be worrisome for the Fed." said Wan-Chong Kung, senior portfolio manager at Nuveen Asset Management in Minneapolis.
Just a week ago, investors had thought Treasuries were decent investments with inflation in check, which would allow the Fed to leave interest rates near zero into 2012. The recent string of upbeat data, together with surging oil and food prices, jolted a bond market that had been locked in a tight range. Despite the consensus view that underlying US inflation is tame and the Fed will stick with its super-easy policy, some traders decided to dump their Treasuries holdings in the cash, futures and derivatives markets.
This is an ominous sign ahead of next week's quarterly refunding, when the government intends to sell a combined $72 billion in longer-dated securities. "Buying the dip here may be akin to catching a falling knife. It's tough to want to take advantage of these lower prices because the Treasuries market has not demonstrated very constructive price action of late," Kung said.
The two-year Treasury note, the coupon issue most vulnerable to traders' anxiety over tighter Fed policy, rose 5 basis points to 0.76 percent, the highest close since June 2010, according to Tradeweb. The two-year yield finished the week 21 basis points higher, which was the largest one-week rise since the week ended June 7, 2009, when it surged nearly 42 basis points.
At that time, the Treasury said it bought $40 million of preferred stocks in three banks in a bid to shore up their capital cushion. This was seen as a move to insure stability of the banking system in the wake of the global financial crisis. All Treasury maturities were battered on Friday. This resulted in the spread between two-year and 10-year yields - a gauge of long-term inflation expectations - to grow to 397 basis points, several basis points below its all-time wide.
The yield on the 30-year bond rose 7 basis points on the day to 4.73 percent, the highest close since April 2010. It was up 20 basis points on the week, which was the biggest spike since a 23 basis-point rise in the week ended October 17. Friday's losses came after a confounding snapshot of the labour market that showed it improving but still anemic. Non-farm payrolls grew just 36,000, far fewer than the 145,000 increase economists had expected. But the unemployment rate fell to its lowest level since April 2009.