Let The Inversions Begin!

The market reaction to an unfortunate inflation report was as predictable as it was dramatic.

Treasurys sold off hard, led by the front-end. Futures volumes were elevated, with two- and five-year contracts seeing the most activity.

January’s CPI data showed price pressures continued to broaden out last month. When taken in conjunction with the hotter-than-expected headline prints, there was little to dissuade those inclined to price greater odds of a 50bps move at next month’s FOMC meeting.

10s breached 2%, breakevens hit one-week highs and the 7s10s inverted (figure above), leading immediately to speculation that the 5s10s is next. That would be a notable development given where we are in the cycle — namely, still waiting to embark.

Two-year yields pushed above 1.50%, putting more pressure on the 2s10s, which is tighter by 35bps in 2022 (figure below).

“The stronger than expected January CPI report increases the odds of a firmer monetary policy response by the Fed,” TD’s Oscar Munoz and Priya Misra wrote Thursday morning. “We continue to expect the FOMC to raise rates by 25bps at its March meeting, but another solid print in February will likely encourage the Fed to accelerate the pace of hikes in 2022 and hasten both the timing and pace of balance sheet runoff,” they added.

Meanwhile, Goldman raised their forecasts for US yields, with the biggest changes at the front-end.

In a fortuitously timed update, the bank’s Praveen Korapaty wrote Wednesday that 10s are likely to end 2022 at 2.25%, 25bps higher than the bank’s previous forecast.

“The revisions at the front end are more striking,” Korapaty went on to say, calling attention to the bank’s new two-year projection of 1.90% (table above), which reflects expectations of front-loaded rate hikes.

As for the implications for the curve, Goldman expects the 2s10s to end this year at 35bps.

That’s a mere 15bps from levels observed on Thursday morning following the CPI data.