TREASURIES-US yields leap as strong inflation affirms extended rate-cut pause

Adds new comment, bullets, updates prices

By Gertrude Chavez-Dreyfuss

NEW YORK, Feb 12 (Reuters) - U.S. Treasury yields bounced on Wednesday after inflation in the world's largest economy came in stronger than expected last month, reinforcing expectations that the Federal Reserve is likely to pause its rate-cutting cycle for an extended period.

In late morning trading, the benchmark 10-year yield jumped 11.6 basis points (bps) to 4.653% US10YT=RR after earlier hitting a roughly three-week high of 4.66%. The yield was on track for its largest daily rise in three months.

U.S. 30-year yields also gained sharply, up 10.3 bps at 4.851% US30YT=RR, on pace for the largest daily gain since November.

On the front end of the curve, the two-year yield, which tracks policy moves by the Fed, climbed 8.6 bps to 4.376% US2YT=RR. Earlier in the session, it hit its highest since mid-January of 4.389%. The two-year yield was on pace for its biggest daily rise since January 10.

Data showed that the consumer price index (CPI) rose 3% on an annual basis in January compared with the 2.9% increase expected by economists polled by Reuters. On a monthly basis, the index gained 0.5%, exceeding consensus estimates for a 0.3% increase. The January monthly rise was the biggest gain since August 2023.

"In general, I think that there is still a disinflationary trend. We have always thought that it's going to be hard for the Fed to get back to the 2% (inflation) target," said Mike Sanders, head of fixed income at Madison Investments in Madison, Wisconsin, which oversees $25 billion in assets.

"The process is going to take a little longer than what the markets keep pricing in...Probably, core CPI will settle at 2-1/2% and the Fed won't be able to cut rates as much as they may want or thought that they could."

Following the data, the U.S. rate futures market priced in just 27.5 bps of easing this year, with the next rate reduction pushed back either to the October or December meeting, according to LSEG calculations. Futures traders had for many weeks priced in likely easing in June.

Fed Chair Jerome Powell, meanwhile, testified for a second day, appearing before the House Financial Services Committee, repeating the same opening statement delivered in a Tuesday hearing before the Senate Banking Committee. His comments during a question-and-answer session with House lawmakers drew little market reaction.

TARIFF WOES

While the prospect of tariffs loomed on the horizon, Madison's Sanders viewed them as having a one-time upward impact on consumer prices, with the rate of change probably remaining the same.

"A real concern would be the retaliatory tariffs and what they do for jobs, in terms of slowing down the labor market," Sanders said. "That's when you will see the slowdown occur."

President Donald Trump's trade advisers finalized plans on Wednesday for reciprocal tariffs the U.S. president has vowed to impose on every country that charges duties on U.S. imports, escalating worries of a global trade war and threatening to add to already-sticky U.S. inflation.

Also on Wednesday, the U.S. Treasury will auction $42 billion in 10-year notes, following a strong $58 billion three-year note sale on Tuesday. Prior to Wednesday's surge in yields, U.S. 10-year yields had declined 14 bps since the January auction.

J.P. Morgan pointed out in a research note that over the last two years, six 10-year auctions had taken place on days CPI data was released, with an average tail - the level by which the yield missed rate forecasts - of 1.0 bp. On the 18 non-CPI day auctions, the average tail was only 0.4 bp.

In other parts of the bond market, the yield curve steepened, with the spread between two-year and 10-year yields at 28.6 bps US2US1O=TWEB, compared with 24.5 bps late Tuesday.

Investors continued to sell the long end of the curve more than the front end, resulting in higher yields for the former, reflecting concerns about inflation down the road along with policy uncertainty under the Trump administration.