Bond Report: Treasury yields hit multiyear highs with Fed seen likely to deliver 75 basis point rate hike on Wednesday

What yields are doing

The 2-year Treasury note yield
TMUBMUSD02Y,
3.422%
rose 15.6 basis points to 3.435% from 3.279% Monday afternoon. That’s the highest 3 p.m. level since Nov. 14, 2007, according to Dow Jones Market Data. The yield has climbed 79.7 basis points over the last eight trading days, the largest eight-day yield gain since Aug. 14, 1989.

The yield on the 10-year Treasury note BX:TMUBMUSD10Y rose 11.1 basis points to 3.482% from 3.371% at 3 p.m. Eastern on Monday. That’s the highest since April 14, 2011. It has climbed 51.3 basis points over the last five trading days, the largest five-day gain since Oct. 14, 2008.

The yield on the 30-year Treasury bond
TMUBMUSD30Y,
3.434%
rose 6.4 basis points to 3.432% from 3.368% late Monday. That’s the highest since Nov. 2, 2018. The yield is up 26.3 basis points over the last three trading days, the biggest three-day gain since March 19, 2020.

What’s driving the market

Treasurys sold off aggressively, led by the 3-month bill to 1-year note, on Tuesday — a day after The Wall Street Journal reported that recent inflation reports are likely to lead Federal Reserve officials to consider a 75-basis-point rate hike on Wednesday. In addition, economists at JPMorgan Chase & Co., Goldman Sachs, Barclays and Jefferies have also penciled in the possibility of a 75 basis point hike.

Read: JP Morgan, Goldman economists now expect Fed to raise rates by 75 basis points on Wednesday

Expectations for a larger hike come after last Friday’s surprise May consumer-price index reading that showed year-over-year inflation accelerated to a 40-year high of 8.6%. Evidence of still-intense inflation was also seen in Tuesday’s report on the cost of wholesale goods and services, which jumped 0.8% in May and added to mounting evidence that price pressures will persist through the summer.

Also see: A 75-basis point Fed move is not a slam dunk, former staffer says

The Treasury curve flattened on Tuesday, with the spread between the 2-year and 10-year Treasury yields reinverting again earlier in the day in what’s typically seen as a recession warning signal, albeit with a lag.

Meanwhile, financial markets remained “fragile” as some traders and strategists pointed to the risk of an instant recession. Strategist Ben Emons of Medley Global Advisors said all it would take to trigger further asset selloffs is ambiguity from Fed Chairman Jerome Powell on what the central bank will do in July — which would allow the financial market to extrapolate that further big hikes are on the way.

Dow industrials and the S&P 500 continued to sell off Tuesday afternoon, a day after a sharp rise in real, or inflation-adjusted, yields was blamed for adding to carnage in the equity market. Major indexes plunged on Monday and the S&P 500
SPX,
-0.37%
finished in a bear market.

The NFIB Small Business Optimism Index decreased marginally to 93.1 in May from 93.2 in April, the lowest level since April 2020, according to data released Tuesday by the National Federation of Independent Business. The reading was broadly in line with economists’ expectations in a poll by The Wall Street Journal.

What analysts say

“Market pricing has swung aggressively in favor of the Fed raising rates by 75bps at this week’s FOMC meeting, following a report in the press that officials were considering such a move after last Friday’s stronger-than-expected CPI and consumer inflation expectations data. In response to these developments, we now expect the Fed to take what the market is giving them, and raise rates by 75bps at the June meeting,” according to a note from Deutsche Bank Securities’ economists Matthew Luzzetti, Peter Hooper and others.

“With a frontloading of rate hikes necessary to combat elevated inflation, another 75bp rate increase at the July meeting looks likely, bringing the fed funds rate to 2.3% at that point,” they wrote. “Beyond July, we see the fed funds rate around 3.5% by year-end and continue to forecast a terminal fed funds rate of 4.1%, which will now be reached about a quarter earlier in Q1 2023.”