TREASURIES-US yields dip as year-end buyers step in; volatility seen in 2025

By Gertrude Chavez-Dreyfuss

NEW YORK, Dec 31 (Reuters) - U.S. Treasury yields slipped on Tuesday in thin trading as investors continued to buy government debt on the last day of the year after a meaningful sell-off this month that pushed the benchmark 10-year yield to a roughly six-month high a few days ago.

In mid-morning trading, the 10-year yield was down 1.4 basis points (bps) at 4.533% US10YT=RR. For the year, the yield has advanced nearly 60 bps, on track for its best yearly gain in two years. It hit 4.7390% in late April, the highest level in 2024.

For December, the peak was 4.641% hit on Dec. 26, a more than six-month high hit as the market priced in more inflation pressures under a Donald Trump administration in 2025, with tariffs and tax cuts.

Torsten Slok, chief economist and partner at Apollo Global Management in New York, wrote in his daily blog on Tuesday that the term premium, or the expected excess return that investors earn by holding longer-dated U.S. Treasuries versus rolling over T-bills, has increased 75 bps over the past three months.

"In other words, 10-year rates have increased an additional 75 bps more than what can be justified by changing Fed expectations, which is likely a reflection of emerging fears in markets about U.S. fiscal sustainability," Slok said.

"Combined with the significant decline in the Fed's reverse repo facility (RRP) usage and the dramatic increase in T-bill issuance in 2024, which needs to be rolled over into longer duration, the risks are rising that rates markets will be more volatile in 2025."

Reverse repos are conducted by the New York Fed's Open Market Trading Desk and are a key tool to manage short-term rates. In a reverse repo, market participants lend cash to the Fed, usually overnight, at an interest rate of 4.25%, in exchange for Treasuries or other government securities, with a promise to buy them back.

On the shorter end of the curve, the two-year yield, which is more sensitive to the policy rates outlook, fell 3.1 bps to 4.223% US2YT=RR. It hit a roughly two-week low earlier in the session of 4.219%.

The two-year yield started 2024 at 4.328% and ending the year so far at 4.223%, or a decline of more than 10 bps.

Treasury yields did trim their losses after data showed that the U.S. Federal Housing Finance Agency home price index rose 0.4% to 432.3 in October after surging 0.7% to 430.6 in September. It is a fifth straight monthly gain after a flat reading in May, with the index not posting a decline since August 2022, according to Action Economics.

In other parts of the Treasuries market, the U.S. yield curve steepened with the spread between two- and 10-year yields hitting 30.6 bps US2US10=TWEB. That's the steepest since June 2022. It was last at 30 bps.

The curve typically steepens in an easing cycle as the rise at the short end is anchored as it would typically reflect interest rate cuts.

In the rate futures market, traders on Tuesday have priced in an 88% chance of a pause in rate cuts in January. U.S. rate futures have priced in just 47 bps of rate easing in 2025, or about two 25-bp cuts, LSEG calculations showed.

(Reporting by Gertrude Chavez-Dreyfuss; Editing by Hugh Lawson)

((gertrude.chavez@thomsonreuters.com; 646-301-4124))