Bond Report: Treasury yields retreat ahead of ECB; Fed’s rate hike brings yield curve in focus

Treasurys recovered from the previous session’s fall, pushing yields lower, early Thursday in New York ahead of an important policy update from the European Central Bank and following the Federal Reserve’s decision on Wednesday to lift interest rates, as expected. The U.S. central bank also signaled that it would tighten monetary policy at a slightly faster clip than had previously been anticipated, with the domestic economy growing steadily.

The 2-year note yield TMUBMUSD02Y, +0.00% the most sensitive to shifting interest-rate expectations, shed 2.5 basis points to 2.553%.

The 10-year Treasury note yield TMUBMUSD10Y, -0.68% fell by 3.3 basis points to 2.946%, while the 30-year bond yield TMUBMUSD30Y, -0.87% gave up 4.1 basis points to 3.062%.

Bond prices rise as yields fall.

Wednesday’s rate-hike decision has flattened the yield curve, the spreadbetween short-dated and longer-dated government debt. One measure of that span, the differential between 2-year and 10-year Treasurys, stands at 39.3 basis points, or 0.393 percentage point, representing the tightest spread since 2007.

The yield gap between the five-year note TMUBMUSD05Y, -0.66% currently at 2.816% and the 30-year bond, another popular gauge of the curve’s slope, narrowed to 24.6 basis points, also marking its flattest reading in more than a decade.

Measures of the yield curve, a closely watched line plotting yields across all Treasury maturities that tends to slope higher because investors demand richer rates for lending for a longer period, is closely monitored by Wall Street because inversions, in which short-dated yields move above long-dated ones, have served as accurate predictors of recessions.

On Wednesday, yields rose after Fed officials raised the benchmark federal-funds rate by a quarter-percentage point to a range between 1.75% and 2% and raised estimates for the pace of growth and inflation, which can chip away at a bond’s fixed payments.

Fed Chairman Jerome Powell cited an economy that was “in great shape,” during a news conference following the policy update., however a fall in the yields of longer-dated bonds suggest that investors may have a more muted outlook for economic growth currently approaching its ninth year of expansion amid concerns about President Donald Trump’s trade policy. The latest increase will bring the rate increases for this year to four, up from a projection of three increases at their March meeting.

“Growth is strong. Labor markets are strong. Inflation is close to target,” Powell said at the news conference.

Against the backdrop of uncertainties around U.S. trade policy and the growth picture, however, some market participants took the Fed statements as underlining questions about the long-term economic prospects.

“However, despite this near-term confidence in the economic outlook, Chair Jerome Powell used the press conference to stress the uncertainty around future policy developments. He frequently cited ‘wide uncertainty’ around “unobserved variables” and reiterated the need to focus on incoming data,” wrote Credit Suisse analysts in a Thursday research note.

Attention now turns to the European Central Bank, which is set to discuss on Thursday a timetable for ending its €2.5 trillion ($2.95 trillion) program of bond buying, or quantitative easing, which has implications for Treasurys. The ECB’s policy statement is scheduled for release at 7:45 a.m. Eastern Time, while ECB President Mario Draghi will hold a news conference at 8:30 a.m.

Read: Investors brace for ECB ‘close call’ on when to start winding down QE

And see: The ECB, not the Fed, is the match that will spark bond market volatility: analyst

10-year German government bonds TMBMKDE-10Y, -4.88% a proxy for the health of the eurozone economy, were yielding 0.499%, compared with 0.472% on Wednesday, according to FactSet data.

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