Treasuries Slide as Inflation Concern Eats Away at May Rally

(Bloomberg) — Treasuries slumped as renewed inflation fears halted a rally that has put the securities on course for their first monthly gain since November.

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US sovereign yields climbed across the curve as oil advanced to a two-month high and European inflation data for May exceeded economists’ forecasts. Hawkish comments from Federal Reserve Governor Christopher Waller added to the bond selloff.

Yields on US three-, five,- seven- and 10-year notes all jumped about 10 basis points after having fallen for most of the past three weeks. Tuesday’s move was exacerbated as Treasuries played catch up to other financial markets after being shut worldwide on Monday for the US Memorial Day holiday.

“We still need to acknowledge fully that inflation has become self-sustaining, and bringing it back under control will be harder and more painful than the central bank hopes,” Sonal Desai, chief investment officer for fixed income at Franklin Templeton, wrote in a research note. “The Fed’s tightening cycle will be longer, and policy rates and bond yields will have to go higher than markets currently expect.”

Despite Tuesday’s selloff, the US 10-year yield is still about 40 basis points below the high reached earlier this month as investors began to see value once again in fixed-income assets. Investors are caught between elevated inflation and monetary policy tightening, which is aimed at slowing it but is also increasingly seen as a threat to the economy.

Europe Inflation

Bunds and other European bonds had dropped Monday after German inflation accelerated to another all-time high, adding urgency to the European Central Bank’s exit from crisis-era stimulus. Inflation in Spain also unexpectedly quickened.

At the same time, Fed Governor Waller argued for more rate hikes until price pressures recede.

“I support tightening policy by another 50 basis points for several meetings,” Waller said in Frankfurt. “In particular, I am not taking 50 basis-point hikes off the table until I see inflation coming down closer to our 2% target.”

The losses in Treasuries spurred losses in other Asian debt. Australia’s 10-year yield jumped 11 basis points to 3.37%, while the on similar-maturity New Zealand bonds advanced six basis points to 3.61%. Japan’s benchmark yield climbed one basis point to 0.235%.

The slump in Treasuries also looks to be being driven by month-end portfolio rebalancing. JPMorgan Chase & Co. estimates such flows may cause a 1% to 3% outperformance in equities during the last week of May as pension funds shift allocations away from bonds.

Read More: Bonds Rally Everywhere in May With Bulls Saying Selloff Is Over

Treasuries have still returned 0.8% in May, on course to halt five straight months of losses. The S&P 500 Index of US shares has risen 0.6%.

“I’m not completely convinced” that Treasury 10-year yields have seen the cycle high, Kit Juckes, a strategist at Societe Generale SA in London, wrote in a client note. “Chances are that Treasuries will turn the screw at least one more time, probably this summer as rates rise by another 100 basis points.”