U.S. bonds experienced a significant rally on Wednesday, causing yields to plummet to levels not witnessed in months, as a well-received auction heightened investor confidence in the continued deceleration of inflation. Rates on Treasury notes ranging from five to thirty years dropped by a minimum of 10 basis points during the day, spurred by robust demand for a five-year note auction that surpassed expectations. The auction, amounting to $58 billion, achieved a yield of 3.801%, marking the lowest since May. Prior to the auction, the notes were trading at 3.815%, and the yield had mostly exceeded 3.86% since the sale announcement last week. Notably, yields on 10-year Treasuries descended to 3.79%, a level last observed in July.
Tuesday’s auction of two-year notes also reported a yield below expectations, signifying that investors were willing to accept more conservative returns. The Treasury market is poised for a second consecutive substantial monthly gain, propelled by signs that inflation is converging toward the central bank’s target after two years of interest-rate hikes. Anticipation of impending U.S. rate cuts in the coming year is prevalent among investors.
According to Dan Mulholland, Senior Managing Director at Crews & Associates, the impressive demand for Treasuries over the past eight weeks aligns with the market trend, where auctions follow the market’s trajectory. Technical factors, including year-end buying expectations and a seasonal lull in other debt issuances, such as corporate bonds, have also played a role in this trend.
The rally in Treasuries leading up to the auction was supported by earlier gains in various European bond markets and the anticipation that month-end activities would trigger passive investor buying. Additionally, lower-than-average trading volumes during the holiday-shortened week likely amplified the impact of flows on prices.
James Camp, Managing Director at Eagle Asset Management, described the past couple of months as extraordinary for the bond market. Investors appear to be embracing the belief that the Federal Reserve’s peak or the conclusion of the Fed’s tightening cycle is unequivocally favorable for bonds.
The U.S. government is scheduled to conduct a $40 billion auction of seven-year notes on Thursday.
