Bond yields fell sharply on Monday as the failures of Silicon Valley Bank and Signature Bank had investors factoring in the chances of the Federal Reserve either pausing its rate-hike campaign or raising borrowing costs more slowly this month.
The yield on the 2-year Treasury
tumbled to 4.122% from 4.586% on Friday. It is heading for its largest-one day decline since Sept. 15, 2008, and largest three-day decline since Oct. 22, 1987. Yields move in the opposite direction to prices.
The yield on the 10-year Treasury
fell to 3.636% from 3.694% on Friday afternoon. The 10-year rate is heading for its largest three-day decline since Nov. 20, 2008.
The yield on the 30-year Treasury
retreated to 3.490% from 3.699% late Friday.
What’s driving markets
The monetary policy-sensitive 2-year Treasury yield briefly plunged by 60 basis points, to below 4%, early Monday as investors fretted that worries about the banking system after the collapse of California’s Silicon Valley Bank
and New York’s Signature Bank
would force the Federal Reserve to either halt or slow the pace of interest-rate increases on March 22.
The 2-year yield, which was above 5% or an almost 16-year high just last week, dropped to as low as 3.976% before the U.S. stock market opened.
Markets are pricing in a 37.3% chance of no Fed rate hike on March 22 and a 62.7% probability that policy makers will raise rates by another 25 basis points to between 4.75% and 5%, according to the CME FedWatch tool. The chances of a 50 basis point hike are now seen at zero.
The central bank is mostly expected to keep its fed funds rate target at 4.5% to 4.75% by July, which implies a rate cut taking place by then, according to 30-day Fed Funds futures.
As of Friday, the MOVE index, which measures expected volatility in the Treasury market, sat at 140, its highest level of the year.
What analysts are saying
“The Fed may now find itself between a rock and a hard place. It wants to tighten policy to keep a lid on inflation but will now face questions as to whether policy is already too tight, given this nasty wobble in the banking system and the pressure higher rates are already putting on many companies’ cash flows,” said Russ Mould, investment director at U.K.-based AJ Bell.
“If nothing else, this is a reminder that the Fed may not find it easy to extricate itself from more than a decade of record-low interest rates and $7 trillion of quantitative raising (around a quarter of U.S. GDP) without something breaking somewhere. Money was cheap and tossed around with abandon as a result of the zero cost associated with it. Now markets are going through a journey once more to discover what is the cost of money, some of that prior reckless abandon could lead to trouble.”
“For all of the Fed’s efforts to tighten, the Fed Funds rate is still below where it was before the Great Financial Crisis started in 2007 and the central bank may yet struggle to get back there, if the SVB drama is anything like a reliable guide,” Mould concluded.