BOND REPORT: Treasury Yields Erase Rise After Tepid Housing Data And Post Weekly Drop

Flatter yield curve pricing in Fed 'policy mistake': analyst

U.S. Treasury prices finished with small gains Friday, leaving yields down slightly, after disappointing housing data further stoked doubts about the Federal Reserve's economic outlook and policy plans.

The yield on the two-year Treasury note , which is more sensitive to Fed policy moves, declined 3.6 basis points to 1.319%. For the week, the yield lost 1.9 basis points. Bond prices and yields move in opposite directions.

Meanwhile, the yield on the 10-year note , ended marginally lower at 2.157%, marking a 4.4 basis-point decline from last week. The 30-year Treasury bond yield finished little changed at 2.782%, but registered a weekly decline of 7.3 basis points.

Bond yields erased a rise after data showed that construction of new housing fell in May for the third month in a row (http://www.marketwatch.com/story/home-builders-cut-back-for-third-straight-month-2017-06-16), even though builders are optimistic about the economy. The pace of housing starts declined by 5.5% to an annual rate of 1.09 million, marking the lowest level in eight months.

Treasury yield moves this week come as the Fed elaborated on its plan to normalize monetary policy and shrink its $4.5 trillion balance sheet. Chairwoman Janet Yellen said. on Wednesday during an afternoon news conference, after the Fed raised rates for the fourth time since the end of 2015, that the Fed is "monitoring" stubbornly low inflation but isn't ready to veer from its tightening schedule, deeming recent week data as "one-off."

However, the slippage in longer-dated yields may imply that investors aren't as unfazed by a batch of data, including a recent tepid reading of consumer prices (http://www.marketwatch.com/story/inflation-falls-again-in-may-as-cpi-recedes-from-recent-high-water-mark-2017-06-14) and the Friday's housing data, that have signaled that inflation and perhaps the economy, may not perform as optimally as the central bank hopes. Weaker inflation can encourage buying in bonds because higher inflation erodes the fixed payments of the securities.

Indeed, the flattening of the yield curve, a line that traces yields across maturities, over the course of the week indicates that "the market and the Fed are not on the same page," said Ward McCarthy, chief financial economist at Jefferies, in a note to clients.

"The Fed appears to be committed to an accelerated rate and balance sheet normalization process, which the upcoming cavalcade of Fed speakers will attempt to reinforce," he said. "In contrast, the market appears to be pricing-in a policy mistake."

As the end of the quarter approaches, the desire by buy-side firms to put cash to work could see the 10-year yield test the 2% level, McCarthy said.

Relatively low yields come as equities, which tend to rise as investors become more comfortable taking on risk, found sufficient traction on Friday to push the Dow Jones Industrial Average to its 21st record close of 2017. Traditionally, stock values and bond yields move in the same direction.

Looking ahead, The U.S. Treasury Department will auction $97 billion in securities next week, comprising $53 billion in new debt and $44 billion in previously sold debt

(END) Dow Jones Newswires

June 16, 2017 16:24 ET (20:24 GMT)