(Bloomberg) -- Wagers that slowing inflation will allow the Federal Reserve to cut interest rates at least twice this year drove Treasury yields to their lowest levels of the year, adding to the biggest weekly gain in months.
Yields across maturities declined by at least three basis points Friday, led by shorter-maturity tenors that are most sensitive to Fed rate changes. The two-year note's fell as much as six basis points to about 3.4%, the lowest since October and its lowest closing level since 2022. Longer-maturity yields also reached year-to-date lows.
On the week, the bond market overcame stronger-than-anticipated employment data, released Wednesday, that prompted traders to flee wagers on a Fed rate cut before mid-year and Wall Street banks to abandon forecasts for a move in March. By June, the central bank may be led by former Fed Governor Kevin Warsh, US President Donald Trump's pick to succeed Jerome Powell and an advocate of cutting rates.
The weekly move — in which five- to 30-year yields declined by about 15 basis points — was aided by haven buying of Treasuries amid volatility in stocks, commodities and cryptocurrencies. An auction of new 30-year bonds on Thursday drew historically strong demand.
"The labor market is in the driver's seat for Fed policy, but they're anxiously hoping that inflation continues to moderate, and this report is positive in that respect," said Tim Musial, head of fixed income at CIBC Private Wealth Group. In the meantime, "the Treasury market is going to take cues from risk markets."
The consumer price index rose less than estimated in January, potentially allaying the concerns of some Fed policymakers that inflation remains too high to cut rates further in response to signs of weakness in the job market.
Traders reacted by pricing in roughly 63 basis points of easing by year-end — equivalent to two quarter-point cuts and about half of a third — up from 58 basis points on Thursday. They continued to fully price in a Fed rate cut in July, as well as a strong likelihood of a move in June. Policymakers left rates unchanged in January following three cuts at the end of 2025.
The CPI data "was pretty encouraging under the surface," Tiffany Wilding, economist at Pacific Investment Management Co., said on Bloomberg Television. "You should have a Federal Reserve that feels more comfortable cutting interest rates. Getting a couple more cuts in this year seems reasonable."
The consumer price index rose 0.2% in January, the smallest gain since July, Friday's data showed. The core CPI, which excludes food and energy, increased 0.3% as expected. While the annual rates slowed from December, Chicago Fed President Austan Goolsbee said services inflation in particular remains too high, warranting caution on rate cuts.
At the same time, Treasuries "have also benefited from some of the risk-off cross-asset moves over the past few weeks," said Molly Brooks, US rates strategist at TD Securities. The 10-year tumbled from as high as 4.25% at one point Monday to briefly trade below 4.05% on Friday, its lowest since early December.
The S&P 500 Index, which reached record levels last month, has fallen nine of the past 12 sessions. Consumer discretionary and technology companies led the declines, which reflect anxiety about inflated valuations tied to artificial intelligence usage.
What Bloomberg Strategists say...
"Easing inflation and limited supply ahead will extend the constructive tone in Treasuries. The soft CPI reading is supporting the front-end and reinvigorating a Goldilocks scenario for bonds right now even if inflation shows up later this year."
—Alyce Andres, Macro Strategist, Markets Live
The 30-year bond auction was awarded at 4.75%, about two basis points lower than its yield in pre-auction trading, an indication that investors were willing to accept a return lower than dealers expected. Also, investors won the more than 94% of the issue, leaving the so-called primary dealers that are required to participate a record low 5.9% share.
The results suggested that Treasury investors have confidence that yields won't resume rising, even as concern about frayed alliances and large US deficits have weakened the value of the dollar. Next week's auctions include 20-year bonds on Wednesday and 30-year Treasury inflation-protected securities on Thursday.
The positive reaction to the inflation data was limited by the prospect on continued improvement in the labor market that alleviates the need for additional Fed rate cuts, said Jonathan Cohn, head of US rates desk strategy at Nomura Securities International Inc.
"It reaffirms that the presumed sensitivity for the Fed remains on the employment side of the mandate," Cohn said. "I think a good bit of the repricing we've seen this week is in response to softening risk sentiment as opposed to the economic data we've received."
--With assistance from Kristine Aquino and Miles J. Herszenhorn.
(Updates market levels.)
More stories like this are available on bloomberg.com
