US yield curve steepest in a week after manufacturing data

The steeper yield curve on Tuesday reflected expectations that the Federal Reserve would hold interest rates low for now, even as the economy recovers. The benchmark 10-year yield , a proxy for the market’s view on the health of the economy, was last 3.7 basis points higher on the day to 1.630%. The two-year yield, which reflects expectations of interest-rate rises, was marginally higher, last up less than half a basis point on the day to 0.149%.

The Institute for Supply Management (ISM) said on Tuesday its index of national factory activity increased in May as pent-up demand, driven by a reopening economy and fiscal stimulus, boosted orders. But strong demand has strained supply chains. And the coronavirus has disrupted labor at manufacturers and their suppliers, leading to raw material shortages across industries.

The spread between the two- and 10-year yields , the most common measure of the yield curve, rose to 148.8 basis points, the highest since May 21, just prior to the release of the data, and then hit those levels again after the release. The spread between the five- and 30-year yields , another closely watched measure, rose to 150.6 basis points, also the highest since May 21.

The steepening on Tuesday was modest, however, as investors held off from making big moves ahead of Friday’s closely watched federal jobs report.

“This morning’s ISM as well as tomorrow’s Beige Book and Thursday’s ADP report will function as little more than imperfect proxies for the Bureau of Labor Statistics employment release. While any clues on the sustainability of the recent bout of inflation within the interim data will be notable… the direction in U.S. rates will ultimately come down to the non-farm payrolls print,” said Ian Lyngen, head of U.S. rates strategy at BMO Capital Markets.

Lyngen said this despite also acknowledging that the last two employment reports have had very little lasting effect on Treasury yields.

The Federal Reserve has said it does not plan to raise interest rates until the economy has achieved maximum employment. While economic data has shown signs that reopening is driving growth, the labor market recovery has been less established. Despite a strong report in March, April’s jobs numbers fell well short of estimates.