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BLBG: Treasury Yield Curve Is Flattest Since 2008 on Rising Fed Bets
 
Two-year yield closed Wednesday at highest since June
Odds of Fed move this year are 54%, up from 47% a week ago
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Treasury two-year notes are the cheapest relative to 30-year bonds since the start of 2008 as hawkish comments from Federal Reserve officials spur speculation they will increase interest rates this year.
The yield on the shorter-maturity debt, which is more sensitive to the outlook for monetary policy than that on longer-dated securities, closed Wednesday at the highest in two months. The odds the Fed will raise its benchmark this year have risen to 54 percent, from 47 percent a week ago, after Vice Chairman Stanley Fischer joined the presidents of the New York and San Francisco branches in signaling a move in 2016 was still under consideration. Fed Chair Janet Yellen speaks Friday at an annual symposium in Jackson Hole, Wyoming.
“There seems to be increasing willingness by Fed members to hike rates,” said Jussi Hiljanen, head of European macro- and fixed-income research at SEB AB in Stockholm. “Our main scenario is for a December rate increase given our view on its growth, but it will boil down to upcoming economic data. The U.S. yield curve is biased for further flattening.”
The Treasury two-year note yield was little changed at 0.76 percent as of 6:50 a.m. in New York, according to Bloomberg Bond Trader data. The price of the 0.75 percent security due in August 2018 was 99 31/32. The yield closed Wednesday at the highest level since June 23.
The extra yield investors demand to hold 30-year bonds instead two-year notes contracted to 147 basis points, making the so-called curve the flattest on a closing-price basis since January 2008.
Bonds Outperform
History suggests that a Fed rate increase benefits longer-maturity bonds more than their short-dated counterparts. Every time the Fed has raised rates over the past four decades, betting that longer-term Treasuries would outperform short-term notes has proved to be a winner, according to data compiled by Bloomberg, as higher rates helped stem inflation and keep economic growth from overheating.
The probability of a rate increase by September was 28 percent, compared with an 18 percent chance seen at the start of the month, according to data compiled by Bloomberg from fed fund futures.
“The Fed is likely to hike this year, with December more likely than September,” said Jarrod Kerr, a senior rates strategist at Commonwealth Bank of Australia in Sydney. “There is some room for short-end U.S. yields to push a little higher over 2017.”
The Treasury plans to sell $28 billion of seven-year notes Thursday. A $34 billion five-year debt sale Wednesday drew a bid-to-cover ratio of 2.54, the highest since May. A $26 billion two-year note auction Tuesday was covered 2.83 times, also the most since May.
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