US yields slip, despite data, as market sees rate cuts next year

Treasury yields pared early losses on Wednesday after rather strong initial jobless claims data unsettled a market that expects the Federal Reserve to start cutting interest rates around June next year as the U.S. economy slows.

Futures stepped back their pricing of a rate cut ever so slightly after initial claims for state unemployment benefits dropped 24,000 to a seasonally adjusted 209,000 for the week ended Nov. 18, the Labor Department said. Economists polled by Reuters had forecast 226,000 claims for the latest week.

The yield on benchmark 10-year notes fell 3.9 basis points (bps) to 4.379%, after earlier sliding to 4.363%, a new two-month low. The two-year's yield, which reflects interest rate expectations, rose 0.2 bps to 4.885%.

While the initial claims numbers might suggest a still tight labor market, orders for long-lasting U.S. manufactured goods fell more than expected in October to back the view of a U.S. economy cooling considerably after hot third-quarter growth.

"Looking at claims more closely, it remains to be seen whether this recent move higher was justified or whether this was just seasonal noise," said Gennadiy Goldberg, head of U.S. rates strategy at TD Securities in New York.

"The market was a little bit confused in terms of which number it should react to here," he said, referring to the durable goods data. "It's a bit of a knee jerk."

Futures show a 28% probability that the Fed cuts its target rate at the March 2024 policy meeting and that likelihood increases to 60% when policymakers meet in May, according to CME Group's FedWatch tool. Both market bets were dialed back a bit after the morning's economic data.

While inflation has been slowing, the Fed has not declared its fight against rapid price increases over. Instead, the U.S. central bank's focus has shifted toward how long to keep its policy rate at the current 5.25%-5.50% range.

The difference between yields on two- and 10-year notes

remained inverted at -50.8 bps as the shorter-dated note yields more than the longer one. The inversion, which started in July 2022, is seen as a recession harbinger over an extended period.

The yield on the 30-year Treasury bond fell 5.9 bps to 4.521%, and the breakeven rate on five-year U.S. Treasury Inflation-Protected Securities (TIPS) was last at 2.18%.

The 10-year TIPS breakeven rate was last at 2.248%, indicating the market sees inflation averaging about 2.5% a year for the next decade.

The U.S. dollar 5 years forward inflation-linked swap , seen by some as a better gauge of inflation expectations due to possible distortions caused by the Fed's quantitative easing, was last at 2.590%.