U.S. Treasury yields rose on Wednesday after the Bank of Canada unexpectedly hiked its key interest rate by a quarter-percentage-point to 4.75% and ended its four-month pause, fueling bets that the Federal Reserve may still need to raise interest rates after its policy meeting next week.
What happened
-
The yield on the 2-year Treasury
TMUBMUSD02Y,
4.606% gained 2.5 basis points to end at 4.548%, the highest level since May 26, according to Dow Jones Market Data. -
The yield on the 10-year Treasury
TMUBMUSD10Y,
3.742% advanced 8.3 basis points to 3.782% from 3.699% late Tuesday. -
The yield on the 30-year Treasury
TMUBMUSD30Y,
3.883% rose 6.7 basis point to 3.941% from 3.874% late Tuesday.
What drove markets
The Bank of Canada Wednesday unexpectedly raised its overnight lending rate by 25-basis-point to 4.75%, the highest level since 2001.
The BoC was the first major central bank to pause its interest-rate hiking cycle in January. Now it has conceded that higher borrowing costs are still required to cool inflation in an economy that’s more resilient than anticipated.
See: U.S. stock-market investors just got a reminder that ‘pause’ doesn’t mean ‘stop’
The BoC’s decision to lift rates came a day after Australia’s central bank announced its 12th rate rise in just over a year, which also defied expectations.
Markets priced in a 30% probability that the Federal Reserve will deliver another 25-basis point hike after its meeting on June 14, according to the CME FedWatch tool. That’s up from 21.8% one day ago.
In U.S. economic data Wednesday, the U.S. monthly international trade deficit increased 23% in April to a six-month high of $74.6 billion, according to the U.S. Bureau of Economic Analysis and the U.S. Census Bureau. The deficit rose $14 billion from $60.6 billion in March as exports decreased and imports increased.
Total consumer credit rose $23 billion in April, up from a revised $22.8 billion gain in the prior month, the Federal Reserve said Wednesday. That translates into a 5.71% annual rate, up from a revised 5.69% gain in the prior month.
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The Organization for Economic Cooperation and Development warned Wednesday that the global economy must traverse a precarious recovery this year and next due to persistent inflation and higher interest rates.
Data also showed China exports fell a worse-than-forecast 7.5% from a year ago in May, drastically cooling from 8.5% growth seen in April. A string of recent weak updates have heightened expectations that officials will soon make moves to stimulate the economy.
What analysts said
While U.S. markets are pricing a relatively low probability of a hike in June, and putting more probability on a July hike, monetary policy elsewhere in the world illustrates both the economic peril of a premature pause and the potential for resurgent inflation to provoke “surprise” rate hikes, said economists led by Andrew Hollenhorst, chief U.S. economist at Citigroup.
For example, in both Australia and Canada, holding policy rates steady did not result in slowing growth or easing inflation, but a pick-up in house prices.
That’s why a Fed pause risks a similar experience in the U.S., warned Hollenhort and his team. “The surprise nature of hikes shows that once it becomes clear policy rates are not sufficiently restrictive, central banks (including the Fed) may react by hiking sooner rather than later,” they wrote in a Wednesday note.
“Our base case remains for a 25bp Fed rate hike next week,” they said.
