TREASURIES-US yields tumble after producer prices data flags lower inflation

Adds new comment, US 30-year bond auction results; updates prices

By Gertrude Chavez-Dreyfuss

NEW YORK, Feb 13 (Reuters) - U.S. Treasury yields fell on Thursday after certain components in the Producer Price Index (PPI) for January pointed to lower inflation, suggesting that the Federal Reserve remained on track to cut interest rates later this year.

U.S. President Donald Trump's broad announcement on Thursday to impose reciprocal tariffs on every country with duties on U.S. imports elicited little reaction in a Treasuries market weary of being bombarded daily with tariff headlines.

The tariffs will be imposed within weeks as Trump's trade and economic team studies bilateral tariff and trade relationships, a White House official said.

The focus this week has been on inflation, with both consumer and producer price indexes coming in higher than expected, though the details were not as bad as people thought.

U.S. PPI rose 0.4% after an upwardly revised 0.5% gain in December, but key elements in the computation of the core Personal Consumption Expenditures (PCE) index, which the Fed tracks, were actually benign or lower.

Components like physicians' offices and hospital prices were either broadly unchanged or rose just slightly. Healthcare, with a nearly 20% weighting in the core PCE, declined 0.06%.

Portfolio management prices, another important item on core PCE, posted a modest 0.4% increase.

"Those components embedded in the PPI bode well for PCE later this month so that's why we're getting this rally," said Vinny Bleau, director, fixed income capital markets, at Raymond James in Memphis.

Following the PPI data, U.S. rate futures priced in 33 basis points (bps) of easing this year, compared with 27 bps late Wednesday, according to LSEG calculations. The next rate reduction is expected either at the October or December meeting.

Chris Diaz, co-head of fixed income at Brown Advisory in Chicago, said he believes the Fed will be able to cut rates more than the market had expected. "There's going to be enough downward pressure in the shelter component and wages that will continue to put downward pressure on inflation."

The benchmark 10-year yield slid 10.1 bps to 4.533% US10YT=RR after hitting a roughly three-week high on Wednesday. Thursday's fall was the largest in one day since mid-January. U.S. 30-year yields also eased, down 9.4 bps to 4.741% US30YT=RR, the biggest one-day decline in more than a week.

The two-year yield, which reflects Fed policy moves, was down 5.4 bps at 4.311% US2YT=RR, its largest daily drop since late January. On Wednesday, the two-year yield rose to its highest since mid-January of 4.389%.

SEASONALITY IN JANUARY CPI

The PPI report followed data on Wednesday that showed that CPI rose at an annual rate of 3.0% in January, up from 2.9% in December and above forecasts for a rise of 2.9% year-on-year. The core rate, which excludes food and energy, also rose more than expected.

"The CPI components ... have some seasonality to it," said Raymond James' Bleau, noting that prices are typically higher at the beginning of the calendar year, but should slow down in the second half. "Car insurance, shelter, things like eggs are a bloated right now, so hopefully those would simmer down."

Weak demand at the Treasury's $25 billion auction of 30-year bonds on Thursday confirmed fixed-income investors' caution about longer-dated debt.

The bond was priced at 4.748% , more than 1 bp above the expected bid at the rate deadline, as investors demanded a higher yield to take on U.S. long-duration risk. There were $58.2 billion in bids for a 2.33 bid-to-cover ratio, a demand metric, which was the lowest since August.

In other parts of the bond market, the U.S. two-year breakeven inflation rate USBEI2Y=RR rose to 3.338%, the highest since the summer of 2022, before easing to around 3.17%, well above the Fed's 2% target for consumer inflation.

The rate is derived by subtracting the inflation-linked two-year Treasury yield from that of the nominal two-year note US2YT=RR.

The yield curve was less steep on Thursday, with the spread between two-year and 10-year yields at 22 bps US2US10=TWEB, compared with 26.6 bps late Wednesday.

"I am hesitant to put anything into any single-day move, but am certainly surprised at how well the 10-year has done today given the weak auction yesterday," said Brown Advisory's Diaz. "The back-up in yields may have brought in some buyers."