Treasury Yields Hit Record Low
Tuesday June 3, 4:29 pm ET
By Wayne Cole
>>Analysts noted that the more Fed officials refer to a "minor" or "remote" threat of a persistent drop in prices, the more prominent the danger becomes in the minds of investors.<<
NEW YORK (Reuters) - Short-term U.S. Treasury yields cratered at record lows on Tuesday as the mere mention of deflation by Federal Reserve Chairman Alan Greenspan sent bond bulls baying for a rate cut.
Speaking by satellite to a conference in Berlin, Greenspan noted that while deflation was unlikely, the cost of taking insurance against it was "very small indeed."
That overshadowed otherwise optimistic comments on the economy and fueled talk that not only might the Fed ease policy, it could also take unconventional steps such as buying longer-term Treasuries.
"I think Greenspan was pretty clear about the Fed's intentions to cut and that should remove any lingering doubts in the market that they will ease this month," said Jack Malvey, global fixed-income strategist at Lehman Brothers.
It also coincided with dovish outlooks from the Euro-zone, Japan and Canada, giving bonds a world-wide boost.
"This push toward easing is a global phenomenon," said Malvey, noting that a fall in JGB yields below 0.50 percent was a "seminal event." "That should encourage more fund flows out of Japan, which has to be good for assets elsewhere."
In the United States, two-year yields crashed below the Federal funds rate, a rare event -- this is just the sixth time in 14 years -- which has led to official cuts in the past.
The two-year note (US2YT=RR) surged 6/32 in price, taking yields to an all-time low of 1.20 percent from 1.31 percent late Monday. The Fed funds rate has been at a four-decade low of 1.25 percent since Nov. 6.
Likewise, five-year yields (US5YT=RR) hit a record trough of 2.19 percent, down from 2.33 percent on Monday.
Eurodollars (0#ED:) also rallied hard as did Fed funds futures contracts, where the July contract (FFN3) is now pricing in over an 80 percent chance of a 0.25 point easing at the central bank's next meeting on June 24-25.
Adding to the feeding frenzy were rumors a Washington-based think tank had told clients the Fed was near easing and that, if it went, it would be by a full 50 basis points.
THAT "D" WORD
The emphasis on deflation meant there was plenty of demand for long-dated debt as well. The benchmark 10-year note (US10YT=RR) jumped 22/32 for a yield of 3.33 percent, down from 3.41 percent. Thirty-year bonds (US30YT=RR) were up 1-3/32, their yield easing to 4.36 percent from 4.43 percent.
Analysts noted that the more Fed officials refer to a "minor" or "remote" threat of a persistent drop in prices, the more prominent the danger becomes in the minds of investors.
"Every time you hear a Fed governor talk, they mention a slight chance of deflation, but you always hear the word," said Vincent Verterano, head government bond trader at Nomura Securities. "Since they harp on that word, the Street keeps on hearing it and says there must be something to it."
Fed policy-markers have touted various remedies for deflation, including buying longer-dated Treasuries.
"The Fed has published enough papers suggesting they might buy the longer-end, so the market's drawing the obvious conclusions," said John Roberts, head of government trading at Barclays Capital. "Then again, Greenspan also said deflation was unlikely, but it seems the market doesn't want to hear that."
The Fed was not the only central bank taking insurance.
European Central Bank governor Wim Duisenberg sparked a big rally in euro debt by sounding less concerned about inflation, feeding speculation the bank would cut interest rates by 50 basis points when it meets on Thursday.
And the Bank of Canada surprised many by taking a far less hawkish stance on inflation, instead emphasizing the risk to economic growth. The about face convinced markets to sharply scale back the risk of further rate hikes and again drove bond yields broadly lower.
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