"Tightening Fear" Boosts US Treasury Yields... The Return of King Dollar

Strong US Employment, Inflation, and PMI
Fed Likely to Raise Rates Longer and Higher

[Asia Economy Reporter Kwon Haeyoung] As the U.S. Federal Reserve's stance on raising the benchmark interest rate is expected to continue, U.S. Treasury yields soared and the dollar strengthened. Strong economic indicators such as employment and inflation have dampened expectations for a pause in tightening, putting a damper on the stock and bond rallies that began in earnest earlier this year.

[Image source=Reuters Yonhap News]

On the 22nd (local time), the yield on the 10-year U.S. Treasury note closed at 3.922%. Although it fell from the previous day's 3.96%, it remains in the 3.9% range. This is higher than the January low of 3.374% and the year-end closing price of 3.826%. The 2-year Treasury yield, which is sensitive to the Fed's short-term policy, closed at 4.697%. It declined from the previous day's peak of 4.73%, the highest since 2007, but is still trading above the January low of 4.076%.

Since the beginning of this year, expectations that the Fed's tightening stance will continue have frozen investor sentiment, leading to a recent drop in U.S. Treasury prices and a rise in Treasury yields. Bond yields move inversely to bond prices.

The dollar also turned stronger. The dollar index, which measures the value of the dollar against six major currencies, closed at 104.468, up 0.346% from the previous day.

According to the minutes of the Federal Open Market Committee (FOMC) meeting held in February, released by the Fed on the same day, most participants agreed that a 0.25 percentage point increase in the benchmark interest rate would be appropriate. Participants noted, "There are signs that inflation is declining recently, but it is not yet sufficient," and "The labor market remains robust, putting upward pressure on wages and prices."

Concerns about a recession have also eased. Despite last year's aggressive tightening, the U.S. economy remains resilient. This acts as a factor increasing the possibility of further Fed tightening. January's new employment increased by 517,000, and the consumer price index (CPI) inflation rate was 6.4%, both exceeding market expectations. The composite Purchasing Managers' Index (PMI) released the day before also reached 50.2, the highest in eight months, indicating that the U.S. economy has entered an expansion phase. The Federal Reserve Bank of Atlanta raised its forecast for first-quarter real GDP growth to 2.5%, a significant increase from 0.7% a month ago.

Expectations for the terminal rate of the benchmark interest rate are also rising. There is speculation that the Fed will raise rates higher and for a longer period than initially expected. According to the Wall Street Journal (WSJ), derivatives traders anticipate the Fed's terminal rate to exceed 5.25% this summer, surpassing the forecast of 4.9% from a month ago. Bloomberg also analyzed that investors expect the terminal rate this year to be 5.37%, based on financial futures contracts. The current Fed benchmark rate is 4.5?4.75%.

Matt Smith, investment director at UK investment firm Ruffer, said, "As we get closer to the terminal rate, the market felt the job was done and was reassured about the Fed's rate path," but added, "However, recent data over the past two to three weeks showing the economy remains strong is changing the situation."