Bond Yields Plunge Most Since 2008 as Traders Rethink Fed Path

(Bloomberg) — Government-bond yields fell the most since since 2008 after a US bank failure spurred traders to reassess the outlook for additional Federal Reserve rate hikes.

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Shorter-dated Treasury yields plummeted for a second day as traders reverted to pricing in a quarter-point rate hike at the Fed’s March 21-22 meeting, instead of a half-point move. The market also resumed pricing in a quarter-point cut by the end of the year.

The moves occurred even as US employment data released Friday showed job creation exceeded estimates for an 11th straight month in February, which prompted economists at Barclays Plc to forecast a half-point hike in March. The mixed data, which also showed wages rose less than expected, was overshadowed by the failure of SVB Financial Group, which buckled under the strain of declining deposits and losses on its securities portfolio.

The two-year Treasury yield fell nearly 30 basis points to 4.57% at one point and ended near its session low. The yield’s two-day slide of just under 50 basis points was the biggest since 2008. Investors also piled into German short-term debt, sending those rates into a similarly steep decline.

“It is incredible to see the whipsaw action in Treasury yields and it’s likely people want to own Treasuries into the weekend,” said Kevin Flanagan, head of fixed-income strategy at Wisdom Tree Investments.

Traders reasoned that the prospect of contagion in the banking system could curb the Fed’s willingness to keep raising rates despite still-elevated inflation. Swaps referencing the March meeting price in about 32 basis points of tightening, down some 13 basis points from earlier in the week. A rate cut by year end from the expected peak level had dwindled to less than a coin-toss in recent weeks.

“The reaction in the market reflects the broader worry about US banks and investors did expect a beat in the payrolls number,” said Andrzej Skiba, portfolio manager at Bluebay Asset Management.

Markets are jittery about potential fallout from the parent of Silicon Valley Bank, which has suffered losses on a portfolio including US Treasuries. Investors are turning their attention to risks that may lurk in other financial institutions — and questioning the degree to which the Fed’s rate hikes have precipitated that pain.

US payrolls in February rose by more than expected while a broad measure of monthly wage growth slowed, offering a mixed picture as the Fed contemplates whether to step up the pace of rate hikes. The unemployment rate ticked up to 3.6% as the labor force grew, and monthly wages rose at the slowest pace in a year. Nonfarm payrolls increased 311,000 after a 504,000 advance in January, revised down from 517,000.

Traders will look to whether next week’s release of US consumer inflation data warrants pricing in a quarter- or half-point hike this month.

“The market is clearly reading that the labor report is solid but not strong enough for the Fed to re-accelerate the hiking cycle,” said Roberto Cobo Garcia, BBVA’s head of G10 FX strategy. “It would probably take very significant surprises in the CPI data next week for the Fed to change course again.”

–With assistance from Giulia Morpurgo, John Viljoen, Sydney Maki, James Hirai, Tasos Vossos, Ksenia Galouchko and Julien Ponthus.

(Adds Barclays Fed forecast change in third paragraph, updates yield levels.)