Bond Report: Short-term Treasury yield holds at nearly 15-year high a day after August CPI shock

The 2-year Treasury yield remained at its highest level since November 2007 on Wednesday, as traders continued to digest unexpectedly high consumer price inflation in August and a second straight monthly drop in the costs of U.S. wholesale goods and services.

What’s happening?

The yield on the 2-year Treasury TMUBMUSD02Y, 3.783% rose 2.8 basis points to 3.782% from 3.754% on Tuesday, remaining at the highest level since Nov. 1, 2007, based on 3 p.m. levels from Dow Jones Market Data. It’s climbed for five straight days.
The yield on the 10-year Treasury TMUBMUSD10Y, 3.405% declined 1.1 basis points to 3.411% from 3.422% late Tuesday. Wednesday’s level is still the third-highest of the year.
The yield on the 30-year Treasury TMUBMUSD30Y, 3.459% fell 3.9 basis points to 3.468% after factoring in reopening levels.

What’s driving markets?

Investors and traders were still trying to absorb Tuesday’s surprising August CPI, which rose at a monthly rate of 0.1% versus the 0.1% decline that was expected by economists. The headline annual rate also came in higher than expected at 8.3%, and even more troubling was a doubling of monthly core inflation, which strips out energy and food costs.

Read: U.S. inflation slows again due to cheaper gas, CPI shows. But prices still high for almost everything else

However, data released on Wednesday showed the cost of wholesale goods and services fell by 0.1% in August due to cheaper gasoline, matching economists’ expectations, for the second monthly decline in a row. Economists don’t expect the decline in wholesale costs to be sustained, though.

Fed funds futures traders are now pricing in a 76% chance that the Federal Reserve lifts its benchmark interest rate by 75 basis points next week, and a 24% chance of a 100 basis-point hike, according to the CME’s FedWatch tool.

What analysts are saying

“Producer prices were relatively muted in August, held down by falling energy prices and otherwise moving essentially as expected,” Will Compernolle, senior economist at FHN Financial, said in a note. “All in all, the August PPI didn’t rise enough to further flare up anxieties from yesterday’s CPI. While a 100bp hike is still a possibility at next week’s FOMC meeting, this report won’t be the guiding factor pushing the Fed in either direction.”