U.S. government bonds rallied on Friday, driving yields to their sharpest yield decline since late May as turmoil in Europe, sparked by questions about a knock-on effect from economic distress in Turkey, rattled investors’ sentiment and sent them fleeing to the perceived safety of sovereign paper.
Yields momentarily moderated their decline after a report on consumer prices suggested that inflation on a year-over-year basis is percolating, solidifying expectations for at least one interest-rate hike the by Federal Reserve next month and firming anticipation for another in December, market participants said.
The 10-year Treasury note yield TMUBMUSD10Y, -1.92% tumbled by 7.6 basis points to 2.859%, a day after marking its largest one-session yield decline since July 3, based on values around 3 p.m. Eastern, according to Dow Jones Market Data.
The 30-year bond yield TMUBMUSD30Y, -1.76% gave up 6.3 basis points to 3.017% after its sharpest yield decline in a day since June 27.
The two-year note yield TMUBMUSD02Y, -1.55% meanwhile, shed 5.3 basis points to 2.6%, following its biggest daily yield drop also since July 3 on Thursday.
Bond prices rise as yields fall.
All three maturities saw their steepest yield daily decline since May 29, according to Dow Jones Market Data.
For the week, the 2-year fell by 4.5 basis points overall, the 10-year yield saw a weekly drop of 9.4 basis points, while the 30-year rate fell 7.6 basis points on the week. All maturities registered their worst weekly drop since the period ended May 25.
Europe turmoil served as the main driver for bond moves, with equities across Europe, including the pan-European Stoxx Europe 600 index SXXP, -1.07% stumbling after a Financial Times report that the European Central Bank is growing more concerned about exposure of European banks to Turkey’s woes. The Turkish lira USDTRY, +15.9654% was sent plunging to its lowest in a year against the U.S. dollar on Friday.
The 10-year German bond TMBMKDE-10Y, -15.04% known as the bund, saw its yield fall to 0.330%, compared with 0.377% on Thursday. The main benchmark of Europe’s largest economy on the eurozone, the DAX DAX, -1.99% finished down by 2%, its steepest daily drop since June 25. Meanwhile, the Dow Jones Industrial Average DJIA, -0.77% and the S&P 500 indexSPX, -0.71% both closed in the red.
Tensions between the U.S. and Turkey intensified after President Donald Trump, via Twitter, said he authorized a doubling of tariffs on steel and aluminum imports from Turkey.
The tumult sparked by Turkey’s problems helped to overshadow, at least partly, the closely followed consumer-price index. Inflation is a key data point for fixed-income investors because rising inflation can erode the fixed value of debt instruments. Also, rising inflation can cause the Fed to act more promptly in trying to normalize interest-rate policy to combat out-of-control rising prices and inflation.
Consumer prices rose 0.2% in July, as increasing shelter costs offset a decline in energy prices, matching estimates. However, fixed-income investors focused on the 12-month rate of core inflation, which rose to 2.4%, representing the highest rate since September 2008.
“CPI, particularly on the core number for year-over-year at 2.4% at the highest since September 2008, shows that inflation is starting to pick up again,” said Charlie Ripley, senior investment strategist for Allianz Investment Management in a phone interview.
“Our view is that this really kind of gives the Fed a little bit more tailwind to the second hike in December,” Ripley.
“We expect the [year-over-year ] CPI to hover in a 2.5% to 3% range over the balance of the year,” wrote Ward McCarthy, chief market economist at Jefferies in a Friday research note. “The trade war and tariffs do complicate the inflation picture, however,” he said referring to the Fed’s annual 2% target rate of inflation and trade tensions between China and the U.S., which can lift global prices and inflation.
Wall Street is pricing in a more than 60% probability of the Fed raising rates in December and a 94% chance of a rate increase in September, according to CME Group data.
On Thursday, Chicago Fed President Charles Evans said during an interview with media that “it wouldn’t surprise,” the Fed if inflation gets above the central bank’s annual target of 2% “a little bit.” He said “that is nothing to be worried about.”