US Treasury yields surge as hot CPI revives Fed tightening bets

The US Treasury market experienced a significant selloff on Tuesday, with hot CPI data and hawkish Federal Reserve rhetoric reigniting debates about the pace of interest rate hikes. The U.S. 2-year yield surged to 4.731%, nearing a 52-week high of 4.96%. The 10-year yield also rose to 4.99%, after touching a high of 5.023%. The yield curve flattened as a result, with a 2s10s gap of about 26 basis points.

October CPI rose 0.4% against a 0.3% forecast, while core CPI climbed 0.3% against a 0.2% forecast, indicating annualized inflation of around 3.7%, well above the Fed's 2% target. Fed officials have suggested that a core reading of 0.3% or higher could warrant a half-point rate increase. The strong job report, showing unexpected wage growth and strong hiring, along with sticky prices, provided additional support for the Fed to continue tightening monetary policy.

The Fed has only hiked rates once under Chairman Kevin Warsh, by a quarter point in September, and held in October. Mizuho calls December a make-up for the skipped October move, as the 10-year auction priced at 5.02%, slightly above the prevailing trading level, indicating soft demand. The rally in yields is driven by three factors: Fed hike risk, debt supply, and inflation.

If the 10-year yield surpasses 5.365%, its 52-week high, it would signal an even more aggressive Fed policy stance.