US Treasuries sell off as upbeat data bolsters Fed rate hike fears

US government bond prices fell on Tuesday after an upbeat survey of the country’s vast services industry fueled expectations of further big interest rate hikes by the Federal Reserve.

The yield on the 10-year Treasury bill, considered a proxy for borrowing costs around the world, added 0.15 percentage points to 3.34%. The yield on the two-year note, which is sensitive to changes in short-term interest rate expectations, rose 0.11 percentage points to 3.50%. Bond yields rise as their prices fall.

The moves, which followed a U.S. holiday on Monday, became more emphatic after a closely watched survey by the Institute for Supply Management showed services activity beat economists’ expectations, registering a reading of 56.9 in August compared to the forecast of 55.1 and July. figure of 56.7. Any number above 50 signals an expansion. Growth in business activity and new orders accelerated last month, according to the report.

The data, following a strong labor market report last week, encouraged investors to further raise their projections on the scale and speed of the fed raise borrowing costs to control inflation.

Futures markets show that investors expect the Fed’s benchmark interest rate to climb to 4% by next March, while at the end of July rates would peak at around 3 .2%.

Markets are pricing in a 75% chance that the Fed will raise rates by 0.75 percentage points at its end-September meeting, which would mark the third consecutive hike of such magnitude. The central bank’s current target range is between 2.25 and 2.50%.

Citi analysts said the ISM survey “indicates a resilient services side of the economy, despite the pressure from high prices and continued difficulties in hiring workers.

“This should allow the Fed to pursue a still hawkish stance with a [0.75 percentage point] rise in September, as inflationary pressure in services seems more indicative of tight labor markets with less pass-through from shocks to commodities.

The strong ISM reading contrasted with a separate survey of the same sector released by S&P Global on Tuesday, which suggested the services sector was in contractionary territory. Citi said “the source of the deviation is unclear, but the strong ISM reading pushes back immediate concerns about slowing economic activity.”

Yields on government bonds have climbed in volatile trading in recent weeks after hawkish rhetoric from the Fed and a worsening European energy crisis rattled financial markets. Fed Chairman Jay Powell last month reiterated the US central bank’s commitment to rein in rapid price growth, saying it “must keep going until the job is done.”

Line chart of US 10-year Treasury yield (%) showing Treasury yields rise as sell-off hits US sovereign debt

Wall Street’s broad S&P 500 stock index slid 0.5% by mid-afternoon, while the tech-heavy Nasdaq Composite fell 0.8%. The indexes had fallen 1.1% and 1.3%, respectively, on Friday, capping a third straight week of declines as recession fears compounded by monetary policy tightening clouded market sentiment.

The European Central Bank will make its own monetary policy decision on Thursday, with several Wall Street banks anticipating a huge three-quarter point increase. The ECB raised rates in July for the first time in more than a decade by an unexpected amount of 0.5 percentage points.

Tuesday’s moves in US government bonds ricocheted into other debt markets. The yield on the UK’s benchmark 10-year gilt rose 0.16 percentage points to 3.1%, after touching 3% on Monday for the first time since 2014, according to data from Refinitiv. Ten-year British government borrowing costs in the gilt market had climbed more than 0.9 percentage points last month, the biggest rise since at least 1989.

In currencies, Japanese Yen fell 1.7% to ¥142.97 against the greenback, marking a 24-year low, as Tokyo’s tight yield curve controls contrasted with soaring bond yields in other major economies, which lessens the attractiveness of the national currency.

“The role of the yen as a safe haven has been eroded by Japan’s deteriorating trade position, and the [fall in the yen] may have to go further until Japanese authorities intervene,” ING analysts said.

In European equities, the regional Stoxx 600 stock index closed up 0.2%.

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