Treasuries Fear Gauge at March 2020 Levels as War Roils Outlook

(Bloomberg) -- Treasuries are whipping around at the most frantic pace since the March 2020 onset of the pandemic, with investors caught by fluctuating expectations for central bank tightening as Russia's assault on Ukraine spurs stagflation concerns.

Yields on benchmark 10-year Treasuries fell three basis points to 1.84%, unwinding part of an epic 15 basis point spike on Wednesday when Federal Reserve Chair Jerome Powell reiterated his commitment to raising interest rates to cool down inflation. ICE's MOVE Index of Treasuries volatility eased down overnight after surpassing 110 for the first time since March 2020 and only the second time since 2013.

“With fears of stagflation and a Europe's biggest military conflict in decades we are unlikely to see calm markets for some time,” said Damien McColough, head of fixed-income research at Westpac Banking Corp. in Sydney.

Global bond markets are fluctuating widely as Russia's war on Ukraine sets off investor demand for havens but also intensifies concerns that surging commodity prices will exacerbate already elevated inflation world wide. Eurodollar futures that are a focus for Fed rate bets are proving to be a key venue for those dynamics to play out -- helping to spread volatility across fixed income markets.

Eurodollar contracts saw some of the steepest gains on record earlier this week as expectations for the Fed underwent a dovish makeover in anticipation of the fallout from Russia's invasion. Contrary positions lost value and were liquidated.

That proved unfortunate Wednesday as comments by Jerome Powell in support of larger rate hikes if inflation stays hot sparked a eurodollar selloff that erased about half of those gains.

“The Ukraine-Russia situation is unlikely to derail most central bank tightening plans, but it does add a layer of uncertainty,” said Su-Lin Ong, head of Australian economic and fixed-income strategy at Royal Bank of Canada in Sydney.

The most constant moves during the Russian assault have been for volatility to rise, while yield curves flatten and traders bail out of futures positions. The MOVE Index is set for its steepest weekly jump since October 2020, while the gap between 2- and 10-year yields shrank overnight to less than 32 basis points for the first time since March 2020.

The surge in volatility has been accompanied by a collapse in positioning across many futures contracts. The aggregate open interest for 10-year Treasury futures dropped Monday to the lowest in less than a year amid speculation that some of the extreme rallies in U.S. bonds were being driven by traders forced to cover short positions to limit losses.