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Bond Report: 2- and 10-year Treasury yields slip to lowest in more than a week on hopes for a less-aggressive Fed

Treasury yields slipped on Wednesday, accompanied by a drop in the dollar and smaller-than-expected rate increase by the Bank of Canada, as recent soft U.S. economic data boosted hopes that the Federal Reserve might become less aggressive with hikes.

The spread between rates on the 3-month bill and 10-year Treasury intermittently fell below zero, inverting that part of the curve and adding to worrisome signs of an impending U.S. recession.

What happened

The yield on the 2-year Treasury
TMUBMUSD02Y,
4.424%

declined 4.4 basis points to 4.418% after factoring in new-issue levels. Yields move in the opposite direction to prices. Wednesday’s level is the lowest since Oct. 12, based on 3 p.m. figures from Dow Jones Market Data.

The yield on the 10-year Treasury
TMUBMUSD10Y,
4.014%

retreated 9.5 basis point to 4.014% from 4.109% as of Tuesday afternoon. Wednesday’s level is the lowest since Oct. 18.

The yield on the 30-year Treasury
TMUBMUSD30Y,
4.156%

declined 10.1 basis points to 4.163% from 4.264% late Tuesday. Wednesday’s level is the lowest since Oct. 19.

What drove markets

Treasury yields fell on Wednesday along with the dollar, which was under pressure against major peers. The ICE U.S. Dollar Index
DXY,
-1.12%

dropped 1.1% to 109.7, slipping further away from its September high.

Read: U.S. dollar rally takes a breather as currency slumps versus major rivals

Meanwhile, a smaller-than-expected rate increase by the Bank of Canada on Wednesday helped to buttress the view that other central banks might also begin to shift tactics: Some are betting that recent soft U.S. economic data will help suppress inflation and reduce the need for the Federal Reserve to continue aggressively hiking interest rates.

Markets Live: ‘Dovish hike’: Bank of Canada surprises with smaller-than-expected rate increase

Tuesday’s report from the Federal Housing Finance Agency showed home prices fell in August for the second consecutive month, the first time that’s happened since 2011.

In addition, “we also saw consumer confidence miss, coming in at 102.5, falling from 108.0 in September and by more than expected (105.9), with both present situation and expectations declining. Lastly, a miss on the Richmond Fed manufacturing index (-10 vs -5) added to a downbeat message from the data,” a team at Deutsche Bank wrote in a note Wednesday.

Such data, which was followed by Wednesday’s report that the annual rate of new home sales had fallen to 603,000 in September, has hit a market where “liquidity is still thin and…outsized moves can occur due to flows that would have been absorbed much easier prior to the beginning of the tightening cycle,” said Jan Nevruzi, a U.S. rates strategist at NatWest Markets.

Markets are pricing in an 89% probability that the Fed will raise interest rates by another 75 basis points to a range of 3.75% to 4% on Nov. 2, and a 55% likelihood of a 50-basis-point hike in December, according to the CME FedWatch tool.

What analysts are saying

“The Bank of Canada’s rate increase of 50bp rather than 75bp spurred another bond buying spree this morning,” said Jim Vogel, executive vice president at FHN Financial in Memphis. “Of course, officials said all the right things (rates need to rise further), but nothing rains on a less tightening parade.”

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