The second half of the year began on the front foot Friday as concerns continued to mount that Federal Reserve hikes will lead to a recession.
The three-year Treasury yield fell as much as 17 basis points to 2.84% at one point, while the benchmark 10 year yields fell as much as 11 basis points to 2.91% after dropping below the key psychological mark of 3% less than a day before. The move toward the short end led the way, steepening the curve as US stock futures indicated more pain for riskier assets. In Australia, the three-year yield fell as much as 21 basis points, just days before the central bank is expected to announce a half-point rate increase, while European yields dived.
As the fear of a recession grows, the focus is shifting away from inflation, and markets are scaling back expectations for near-term and terminal rate hikes, said Prashant Newnaha, a rates strategist for TD Securities. Friday s moves were accelerated because of thin liquidity and key breaks in technical levels. The latest leg of the global bond-market rally came after Fed Chair Jerome Powell said Wednesday that the risk of higher rates to the economy was less important than restoring price stability.
The most likely outcome for the Fed's next scheduled meeting in July is expected to be another 75 basis-point rate increase, but bets on a peak have been pulled back to March 2023, according to traders. The fed funds benchmark is below 3.40% in the first quarter of 2023, based on swaps pricing.
The Institute for Supply Management manufacturing gauge is due later on Friday and expectations are that it will show a softening from the previous month, as the last major US data release is scheduled for the Independence Day long weekend.
The prospects of a US recession were enhanced Thursday after figures showed personal spending for May rose 0.2%, half of the expected increase. The price index for purchases rose 0.6% compared to the expected 0.7%, supporting the view that an inflation peak is being established.
Over the past three weeks, market-implied inflation expectations have fallen steadily along with nominal yields. The five-year forward estimate of the five-year expected inflation rate is back around 2.1%, where it was in February before spiking to 2.6% in April. The Fed wants to have an average inflation rate of 2% over time.
The late-June rally in Treasuries trimmed a year-to-date loss that eclipses even the biggest annual losses since the early 1970s.
A broad index measuring the performance of Treasuries has fallen over 9% in the year 2022. The bond market has only had five annual declines since 1973, with the most recent being a 2.3% drop last year.
Janet Rilling, senior portfolio manager at Allspring Global Investments, said the market is digesting the increasing odds of a recession. It's likely that inflation will stay elevated. The Fed will continue to be aggressive.