BOND REPORT: Treasury Yields Slip After Yellen Reiterates Outlook For 'gradual' Hikes

By Sunny Oh Features Dow Jones Newswires

Yellen says interest rates 'would not have to rise all that much further to get to a neutral policy stance'

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Treasury yields extended a decline Wednesday after the release of Federal Reserve Chairwoman Janet Yellen's prepared congressional testimony showed the central bank was looking to taper its balance sheet but that the prospect of an additional rate hike would depend on how inflation evolved.

The 10-year treasury yield fell 4.9 basis points to 2.313%. Bond prices move inversely to yields. The 2-year note's yield slipped 4.8 basis points to 1.355%, while the 30-year bond lost 4.4 basis points to 2.906%.

See: Live blog and video of Yellen's testimony before house panel (http://blogs.marketwatch.com/capitolreport/2017/07/12/live-blog-and-video-of-yellens-testimony-before-house-panel/)

Yellen appeared before the House Financial Services Committee as part of her semiannual testimony about monetary policy in front of Congress.

In her prepared remarks, she said that the central bank was focused on cutting its $4.5 trillion balance sheet this year, but did not commit to a date of the next interest rate increase, saying she expected a "gradual" increase in interest rates in the next few years. Yields fell as traders interpreted her written testimony as dovish in part because Yellen showed concerns over the months of weakening inflation.

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"I think she's being overly cautious here in her comments. There was more focus on the balance sheet and not rates," said Tom di Galoma, managing director of Treasurys trading at Seaport Global Securities.

Her comments are largely in line with recent speeches from Fed. Gov. Lael Brainard (http://www.marketwatch.com/story/brainard-supports-balance-sheet-drawdown-but-on-fence-over-rate-hikes-2017-07-11) and Philadelphia Fed President Patrick Harker (https://www.wsj.com/articles/feds-harker-says-slowing-inflation-gives-him-pause-on-raising-rates-1499786821), who have both said the Fed could pause the next hike to its benchmark short-term interest rate if the inflation picture deteriorates.

The personal comsumption expenditures, or PCE, price index, the Fed's preferred measure of inflation, fell to a 1.7% annual rate in April from a five-year high of 2.1% in February, below the central bank's long-run target of 2%.

Yellen also said a so-called neutral rate, the long-term resting point for the fed-funds rate, was "quite low by historical standards," so it wouldn't have to rise much higher to reach that level. Di Galoma pinpointed this remark as "distressing to the marketplace," as investor perceptions were tilted toward the view that rates would have to head much higher to settle at the neutral rate.

"This has got the market in a rally formation, as you're close to only one or two rate hikes to the end of the tightening cycle in her view," said di Galoma.

Read: Republicans to press Yellen on Fed plans to reduce its outsize role on U.S. economy (http://www.marketwatch.com/story/republicans-to-press-yellen-on-fed-plans-to-reduce-its-outsized-role-on-us-economy-2017-07-11).

In economic data releases, the Fed will release its Beige Book, a collection of anecdotes that paint a picture of the overall economy, at 2 p.m. Eastern. But analysts expect few changes to the sunny outlook provided by previous editions, which have described optimism among business owners and tight labor slack.

Shortly after, Kansas City Fed President Esther George, a nonvoting member, will speak on the economic outlook and the central bank's balance sheet at 2:15 p.m. As one of the most hawkish members in the central bank, she is expected to push for a normalization of the balance sheet along with one further interest rate hike.

The Treasury Department will put $20 billion worth of 10-year Treasury notes up for sale at 1 p.m. Auctions of U.S. government paper can affect prices and yields for the outstanding market.

Elsewhere, the yield for the 10-year German benchmark note, or the bund, fell 3.7 basis points to 0.510%, paring the gains made since the mini-taper tantrum sparked by hawkishly interpreted comments from European Central Bank President Mario Draghi. The yield decline highlighted the close relationship between global bond markets as investors find it easier to arbitrage differences in interest rates across the world.

(END) Dow Jones Newswires

July 12, 2017 11:38 ET (15:38 GMT)