Treasurys were bid higher at the long end Monday, and stocks were under pressure, as traders reacted to a war of words between Russia and the West over the downed plane in Ukraine. More and more casualties were also reported as Israel's incursion in the Gaza continued. Gold rose slightly, and oil was higher.
"The long end has become the flight-to-quality 'go to,' and it's no longer 2s and 3s, which it might have been in a more traditional environment," said Ian Lyngen, senior Treasury strategist at CRT Capital. "As a result, when you see some of these flight to quality episodes, the short end of the curve does nothing or underperforms. It's more about what's going on in the long end."
Shorter duration yields did rise while the longer end fell, in a curve flattening trade. The 10-year was at 2.46 in afternoon trading, and the 2-year was as high as 0.50 percent, while its low was 0.484 percent. The 10-year had been as high as 2.491 percent Monday and as low as 2.448 percent. The 30-year yield hit a low of 3.239, its lowest yield in 13 months.
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"Usually when we think of flight to quality bids they occur in the short end of the curve. That doesn't work when you're at zero interest rates," said Jeff Rosenberg, BlackRock chief investment strategist for fixed income. Instead, "it provides protection in the sense that it functions like cash. It's really not functioning the way investors want it to function."
This flattening trade, off again and on again in recent weeks, has accompanied market talk about the Fed possibly moving to hike rates earlier in 2015, after it completes tapering its bond buying program in October. But Rosenberg said the curve flattening is less about the Fed. "It's important when looking at the shape of the curve to distinguish the bull flattening from the bear flattening. Almost all of the flattening we've seen is from the 10-year," he said.
Two key releases are expected Tuesday: CPI at 8:30 a.m. ET and existing home sales at 10 a.m.
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Deutsche Bank chief U.S. economist Joseph LaVorgna said the release of the consumer price index is likely the most important release of the week. He expects another monthly increase in core CPI of 0.2 percent, with the year over year increase at 2 percent, but he expects inflation to be running at a 2.3 percent year over year rate by the end of the year. LaVorgna said it would make sense for the Fed's favored inflation metric, the PCE deflator, to move in tandem with CPI. It's currently at 1.5 percent.
"I think monetary policy and financial markets are on a collision course. The Fed can't keep these rates and balance sheet where it is indefinitely. The unemployment rate is going to be below 6 percent in the next couple of months and inflation is going up," said LaVorgna. The Fed has emphasized that 2 percent is not a target, and Fed Chair Janet Yellen has said the Fed can tolerate slightly higher inflation. Wall Street economists expect the Fed will hike rates mid-year 2015 though some expect an earlier move and others a later move.
Another data point likely to get traders chatting Tuesday is existing home sales for June. Sales are expected to rise by 2.2 percent to 5 million, and the number is being watched carefully because Fed officials have voiced concern about the fact housing has not been robust. Sales increased by 5 percent last month.
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Dozens of companies report earnings ahead of the bell, including Credit Suisse, Comcast, Altria, CIT Group, Domino's Pizza, Gannett, Harley Davidson, Lockheed Martin, Kimberly Clark, State Street and Peabody Energy. Late day earnings are expected from Broadcom, Electronic Arts, Intuitive Surgical, Discovery Financial, VMWare and Juniper Networks.