U.S. Treasury Yields Jump on Inflation Trade

By Matt Wirz and Julia-Ambra Verlaine

U.S. government-bond yields rose faster than many expected Thursday after Democrats won control of the Senate, with traders focusing on the potential of more economic stimulus and the return of long-muted inflation.

The yield on the 10-year U.S. Treasury note traded at 1.081% Thursday morning, according to data from Tradeweb, up from 1.041% Wednesday and 0.955% Tuesday before a pair of runoff elections in Georgia gave Democrats slim majorities in both houses of the U.S. Congress. Thursday's levels is the highest since mid-March.

"The move is clearly on the larger side of what we expected," said Timothy High, an interest rate strategist at BNP Paribas, who had anticipated before the vote that a Democratic victory would boost yields by 0.05 to 0.10 percentage point.

How much higher yields can go depends in large part on whether the incoming Biden administration rolls out stimulus packages that go beyond pandemic relief into other areas, such as infrastructure construction, Mr. High said.

Increased fiscal spending would be financed through the sale of more Treasury bonds, a supply surge that many expect to push prices down and yields up. A combination of rising rates and mounting debt loads increases investors' expectations for inflation as the government prints money to cover higher debt costs.

"The market is clearly on the side that stimulus in this environment stokes inflation," said Jim Vogel, a strategist at FHN Financial, in a research note Thursday. "The outlook for 2021 is unlikely to follow the template that was crafted at the end of the year."

In another sign that investors expect a pickup in inflation, hedge funds have piled into the so-called steepener trade -- buying short-term Treasury notes and selling longer-dated bonds, betting interest rates will rise in the future. Some investors said interest in the trade -- popular ahead of the November presidential vote -- soared again after the results from Georgia.

"That increase in spending translates into more back-end supply and higher inflation," said Kevin Walter, co-head of global treasuries trading at Barclays.

In global debt markets, worries that the U.S. will expand financial sanctions on Chinese companies dragged down prices of Chinese corporate bonds. U.S. officials are contemplating widening a ban that prohibits U.S. investors from owning securities of companies with ties to the Chinese military to include Alibaba Group Holding Ltd. and Tencent Holdings Ltd.

Uncertainty about which companies might get targeted next is prompting some bond investors to dump investments.

"There is deliberately no clear guideline on which companies are safe and which are not," said Polina Kurdyavko, head of emerging markets at BlueBay Asset Management LLP. "The intention is to discourage investors from investing in general in Chinese companies...and that seems unlikely to go away any time soon."

The price of Tencent's $2.25 billion bond due in 2030 dropped to around 99 cents on the dollar Thursday from 102 on Wednesday, the lowest level since the debt was issued in June, according to data from MarketAxess.

Write to Matt Wirz at [e-mail] and Julia-Ambra Verlaine at [e-mail]

(END) Dow Jones Newswires

01-07-21 1227ET