Recent volatility in the fixed income market

Treasury prices were volatile on Wednesday as continuing news of civil unrest in Libya continued to affect oil prices. The Dow Jones Industrial Average dropped 107 points by the end of the day to close at 12,105. Treasuries traded higher for the initial part of the day, just to reverse course after a relatively weak 5-year T-note auction. By the end of the day, the 2-year note dropped 1/32 to yield 0.74% while the 5-year note lost 5/32 yielding 2.17%. Meanwhile, the benchmark 10-year Treasury closed 8/32 lower to yield 3.48% while the long bond rose 11/32 to yield 4.58%

The recent spike in oil prices is bringing inflation back into the spot light. Higher oil prices, up more than 15.33% in 1 week, could very well translate into higher gasoline prices; especially if these prices continue to remain at the current levels for a prolonged period of time. Therefore, unless oil prices come down soon, it could only be a matter of time before they have a upward impact on inflation. The Federal Reserve would dread this scenario as it will have to modify monetary policy by having to decide which could have a more negative effect on the economy: higher inflation or a weak economy landscape.

Source: Bloomberg L.P. Chart by the Fixed Income Strategies Group RBC WM

Treasury prices are reacting to this morning’s economic releases which showed a better than expected reading in the weekly jobless claims report. The 2-year Treasury is trading up 1/32 yielding 0.73% while the 5-year note has risen 5/32 to yield 2.18%. The benchmark 10-year note is currently trading 10/32 higher to yield 3.43% while the long bond is continuing yesterday’s upward momentum with a gain of 14/32 to yield 4.56%.

The Department of Labor released its weekly Initial Jobless Claims report showing that first time claims were lower than expected last week, crossing below the 400,000 level to register 391,000. The previous week’s reading was upwardly revised to 413,000 versus 410,000. Similarly, the Continuing Claims report also showed a lower than expected reading at 3.790 million versus the forecasted 3.880 million. The continuing claims revision for the previous week rose 24,000 to 3.935 million. More importantly, the more stable 4-week average number of Initial Claims dropped 16,500 to 402,000.

The Durable Good Orders report, which shows the dollar volume of new orders, shipments, and inventory levels of products with a lifespan of at least 3 years, was also released this morning. This report is relevant as it is considered a key indicator of future manufacturing activity and therefore, of future economic growth. This morning’s report showed that orders rose close to expectations to 2.70% in January, Additionally, the previous month’s unexpected drop of 2.50% was upwardly revised to register a marginal decrease of 0.40% for the period. Meanwhile, we are also seeing a great deal of volatility in Durable Goods Orders Ex-Transportation as it dropped 3.60% in January. Analysts were expecting an increase of 0.50%. The previous month’s report was revised sharply higher from an initial 0.50% to 3.00%. In other economic news, the New Home Sales data, an important indicator of the state of the housing market, will be released at 9:00 am CST and is expected to register a 7.30% drop for the month of January to 305,000. Additionally, the Treasury will auction $29 billion of a 7-year note today at noon CST. This will complete this week’s three note auctions which totaled $99 billion.