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Bond Report: The 2-year Treasury yield logs 4th straight weekly rise as traders adjust to tighter Fed policy outlook

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The two-year Treasury yield climbed to its highest level in almost two years on Friday, while notching a fourth straight week of gains, as Federal Reserve policy makers continued to set the stage for tighter financial conditions, including a liftoff of the benchmark interest-rate target.

U.S. stock and bond markets will be closed on Monday, for the Martin Luther King, Jr. Day holiday, while Fed officials enter a blackout period for speeches ahead of their Jan. 25-26 meeting in Washington.

What are yields doing
  • The 2-year Treasury note BX:TMUBMUSD02Y yield rose 6.8 basis points to 0.965%, up from 0.897% on Thursday afternoon. The note has been carving out a series of 52-week highs and adding to its ascent toward the highest level since February of 2020, based on yields at 3 p.m. Eastern Time, according to Dow Jones Market Data. For the week, the rate rose 9.7 basis points, for a fourth straight weekly gain.
  • The 10-year Treasury note rate TMUBMUSD10Y, 1.792% rose 6.3 basis points to 1.771%, to register its largest one-day gain since Jan. 3. The yield picked up less than 1 basis point this week.
  • The 30-year Treasury bond yield TMUBMUSD30Y, 2.124% rose 6 basis points to 2.114%, marking the largest one-day gain since Jan. 4. The rate declined less than 1 basis point this week.
  • The Treasury curve continued to flatten. The spread between 5- and 30-year rates shrunk to 56.7 basis points, while the gap between 2- and 10-year yields narrowed to 80.3 basis points, according to Tradeweb data.
What’s driving the market?

Markets have been unsettled by the prospect of tightening financial conditions — with major stock indexes weighed down on Friday partly by the prospect of higher interest rates and the 2-year yield, which reflects the near-term policy path of the Fed, climbing to the highest level in almost two years. Overall moves in yields, however, remained relatively subdued.

Still, analysts expect the benchmark 10-year Treasury yield to eventually breach 2%, a psychologically significant level for the debt used to price everything from mortgages to auto loans. Those expectations are being supported by comments from policy makers, such as Federal Reserve Gov. Christopher Waller, who recently suggested as many as five interest-rate hikes are a possibility in 2022, during a Bloomberg TV interview earlier this week.

Meanwhile, Jamie Dimon, chief executive of JPMorgan Chase & Co.  JPM, -6.15%, told analysts on Friday that the Fed could lift its benchmark interest rate six or seven times to fight rising inflation, though he didn’t specify over what period, according to Bloomberg News.

The remarks came as one measure of inflation hit its highest level in decades. Consumer prices rose 0.5% in December to push the annual, year-over-year gain to a nearly 40-year high of 7%. On Friday, New York Fed President John Williams said inflation, as measured by the personal consumption expenditure price index, the Fed’s preferred inflation metric, is likely to sink next year closer to 2%, near the central bank’s longer-run target.

Data released on Friday showed that U.S. retail sales sank 1.9% for December, as omicron spread and shoppers confronted higher prices due to shortages and soaring inflation. Economists polled by The Wall Street Journal had forecast a 0.1% decline in December.

Industrial output fell a disappointing 0.1% in December as auto production stumbled, compared with Wall Street expectations for a 0.2% gain. Capacity utilization — which reflects the limits to operating the nation’s factories, mines and utilities — inched lower to 76.5% in December from 76.6% in the prior month.

Meanwhile, a closely followed gauge of U.S. consumer sentiment from the University of Michigan fell to 68.8 in January from 70.6 in the prior month, marking the second lowest reading in a decade.

What strategists are saying

“In the week ahead, the holiday shorted trading environment will offer limited new insight in terms of economic data, leaving investors in US rates to continue to digest the implications from a more hawkish Fed for the foreseeable future,” BMO Capital Markets strategists Ian Lyngen and Ben Jeffery wrote in a note. In terms of the Fed’s Jan. 26 policy update, “there has been chatter about an even earlier end to QE in anticipation of a March hike.”

Market Snapshot: Dow ends lower with losses led by JPMorgan as the blue-chip index, S&P 500 book second week of losses

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