By Min Zeng
The bond market is off to a rough start in 2017 as global economic data on Tuesday painted a brighter picture of the growth outlook and sapped demand for relative safer assets.
The yield on the benchmark 10-year Treasury note was recently at 2.507%, according to Tradeweb, compared with 2.446% at the end of 2016. The market was closed Monday for the New Year's Day holiday.
Yields rise as bond prices fall.
The monthly manufacturing indicator in the U.S. advanced to 54.7 in December and beat economists forecast. China's manufacturing sector grew at the fastest pace last month in three years, according to a private manufacturing survey released Tuesday. In the U.K., a gauge of manufacturingrose to the highest since June 2014. In Germany, regional consumer prices data pointed to higher inflation in eurozone's biggest economy.
The data boosted investors' risk appetites, pushing up prices of global stocks and crude oil prices. The Dow Jones Industrial Average stock index was up 0.7% and approaches 20000, a level it has never crossed.
"The gist is that investors are optimistic coming into 2017 that the reflation trade will continue and that global growth will be better than we have seen the last couple of years," said Larry Milstein, managing director for government and agency trading at R.W. Pressprich & Co.
Prices of government bonds in Europe also retreated. The yield on the 10-year German bund rose to 0.281% and the yield on the 10-year U.K. gilt increased to 1.351%.
Bond yields in the developed world have risen after falling to record lows during the summer. Selling government bonds to buy stocks has beena main trade following the U.S. election. Investors have bet that the prospect of large fiscal spending, lower taxes and lighter regulations will lead to stronger growth and higher inflation. Inflation chips away bonds' fixed returns over time and is a big threat to long-term government bonds.
Higher oil prices raise market expectation over inflation. The 10-year break-even rate, or the yield premium investors demand to own the 10-year Treasury note relative to the 10-year Treasury inflation-protected securities, rose to 2.006 percentage point Tuesday. That reflects market expectation of U.S. inflation running at 2.006% over the next 10 years.
The break-even rate has surged from its recent low of 1.36 percentage point in late June. Analysts say the rise is welcomed by the Federal Reserve which has been struggling to push up inflation to its 2% target over the past few years.
"Some further normalization in inflation expectationscould put selling pressure" on Treasury bonds, said Michael Lorizio, senior trader at Manulife Asset Management. "This would also eventually allow the Fed to be more aggressive in raising rates."
The Fed projected three rate increases this year from its December policy meeting. The prospect of tightening policy has contributed to higher bond yields as it tends to shrink the value of outstanding bonds.
Some analysts say corporate debt supply is likely to spring up as the new year starts, which would also weigh down on Treasury debt prices. Companies typically sell Treasury debt to hedge unwanted interest rate volatility when they plan to sell new debt, reflecting the Treasury market's important role in global finance. Corporate bonds offer higher yields than comparable Treasury debt, luring investors seeking income in a still very low yield world.
Treasury yields are still low from a historical standpoint. The 10-year yield wasless than half of where it traded in 2007. Some analysts believe that the long cycle of lower yields is coming to an end and that the record close low of 1.366% set in July marks the bottom of the 10-year yield.
Many big banks expect bond yields to rise further this year. In a Wall Street Journal survey of 16 big banks last month, Deutsche Bank AG expected the 10-year yield to rise to 3.1% at the end of 2017. Credit Suisse Group AG and the Royal Bank of Canada both expected 3%.
J.P. Morgan Chase & Co. said 2.85% and Goldman Sachs Group Inc. said 2.75%.
Others caution that investors betting on higher yields have pinned high hopes over President-elect Donald Trump's fiscal stimulus and its boost to the economy.
If Mr. Trump's policy outcome fails to deliver, growth optimism may be deflated and investors are likely to cut back negative wagers against the bond market, sending yields lower, say analysts.
Write to Min Zeng at email@example.com
(END) Dow Jones Newswires
January 03, 2017 10:54 ET (15:54 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.