(New throughout; adds analyst quotes)
By Kate Duguid
NEW YORK, Oct 1 (Reuters) - U.S. Treasury yields across maturities fell to session lows on Tuesday after the Institute for Supply Management’s U.S. manufacturing activity index fell to its lowest level in a decade.
The Institute for Supply Management (ISM) said its index of national factory activity fell to 47.8, the lowest reading since June 2009, as trade tensions between China and the United States continue to deteriorate business conditions. A reading below 50 signals the domestic factory sector is contracting.
“This raises the prospects of prolonged sub-par economic growth. You’re not in recession territory, but you’re definitely headed in that direction,” said Stan Shipley, macro research analyst at Evercore ISI.
The two-year yield fell to a three-week low, last down 6.2 basis points to 1.560%. The two-year yield is a proxy for investor expectations of the direction of the Federal Reserve’s interest-rate policy. Forecasts that the Fed will cut rates at its October meeting rose to 58.3% on Tuesday from 39.6% the previous day according to CME Group’s FedWatch tool.
The benchmark 10-year yield was down 3.1 basis points to 1.642%, falling slower than the two-year yield and as a consequence, steepening the yield curve to 8.0 basis points, the highest in two weeks. The spread between the two- and 10-year yields was 4.1 basis points at Monday’s close.
Treasury yields had been elevated prior to the manufacturing data, driven higher after Japanese government bond (JGB) prices slumped across the board on Tuesday after a 10-year debt auction received weak investor demand, with the key 10-year futures contract posting the biggest daily fall in three years.
“The auction was the worst in over three years, which has filtered through to all the sovereign markets globally, including Europe and U.S. Treasuries,” wrote Andy Brenner, head of international fixed income at National Alliance Securities.
“Could this be the start of pullbacks from Central Banks? Is it the recognition that Central Banks are facing blanks in their ability to manipulate global interest rates,” he asked. “Probably not but we are heading in that direction.”
Other analysts confirmed that view.
“We dissected the reasons why the sovereign yield auction in Japan was so poor. And the story you have there could happen here too. Low yields are not attractive for investors. This is going to be an increasingly important issue here as our deficits continue to go higher and we need bigger and bigger auctions,” said Shipley.
Reporting by Kate Duguid; Editing by Catherine Evans and Nick Zieminski