Government bonds slip as Fed officials focus on inflation

Government bonds were under pressure on Wednesday as traders expected that the world’s most influential central banks would extend their aggressive rate rises to combat soaring inflation.

The yield on the 10-year US Treasury note, which underpins debt pricing worldwide, added 0.05 percentage points to 2.79 per cent, up sharply from the level of about 2.5 per cent the previous day.

The two-year Treasury yield, which tracks interest rate expectations, has risen steadily through the week and hit 3.1 per cent.

Fed officials on Tuesday signalled that the central bank was committed to its aggressive fight against soaring prices, prompting investors to price in more interest rate rises that lower the appeal of fixed-income-paying bonds.

The Bank of England is widely expected to lift its main interest rate by an unusually large 0.5 percentage points on Thursday, a move investors said could shift market expectations that central banks may temper the pace of rate rises as they try to ward off domestic economic slowdowns.

“The BoE decision means we are facing yet another central bank rate hike with a hawkish outlook,” said Maya Bhandari, global head of multi-asset at BNP Paribas.

“It will be a sharp reminder to markets that a recent pivot from inflation fears to pricing in a recession was premature and that central banks are very much focused on stemming inflation pressures.”

The 10-year UK gilt yield rose 0.08 percentage points to 1.92 per cent. The two-year gilt yield added 0.1 percentage points to 1.79 per cent.

San Francisco Fed president Mary Daly said in an interview on LinkedIn on Tuesday that the central bank was “nowhere near” done with its fight to cool inflation, which continues to run at 40-year highs.

In a separate interview, Chicago Fed president Charles Evans said a 0.75 percentage point rise in September “could also be OK.”

The Fed raised its main funds rate by 0.75 percentage points for the second month in a row in July, taking it to a range of 2.25 to 2.5 per cent. Futures markets also now put a 40 per cent chance of another 0.75 percentage point increase at the central bank’s next rate-setting meeting in September.

Germany’s 10-year Bund yield rose 0.08 percentage points to 0.8 per cent as the price of the debt fell. Italy’s equivalent bond yield added 0.07 percentage points to 2.99 per cent.

The concerns capped gains for equities, which have struggled for firm direction in thin summer trading conditions this week. In early trading in New York Wall Street’s S&P 500 rose 0.7 per cent and the technology-heavy Nasdaq Composite rose 1.5 per cent. Europe’s regional Stoxx 600 share index eked out a 0.3 per cent gain.

Equities had been displaying “an air of complacency” and “a lack of appreciation” for “the risks that this inflation brings,” said Kasper Elmgreen, head of equities at Amundi. “Inflation is a real problem, it is dangerous to underestimate it.”