US retail sales data on Wednesday will be closely watched for signs that inflation is crimping consumer spending, and the number may help set the tone for the day's 10-year Treasury note sale. Treasuries prices were boosted on Tuesday by a safe-haven bid after Japan raised the severity level of the crisis at its quake-stricken nuclear plant, renewing safety bids for bonds and other less-risky investments.
Lower stock and commodity prices, together with weaker-than-expected data on US trade and German business sentiment, also stoked demand for bonds. Markets are likely to return their focus to the US economy on Wednesday, however, as investors try to calculate the impact rising inflation will have on how quickly the Federal Reserve will raise interest rates.
The impact of rising food and oil prices on consumer spending is also seen as key to whether the economy can hold recent gains, and if it can sustain higher bond yields. "There is lots of feeling now that higher gas increases are starting to bite on the consumer, which might make some a little nervous on retail sales tomorrow," said John Briggs, interest rate strategist at RBS Securities in Stamford, Connecticut. Bonds may risk weakness if the market sees the data as a sign that inflation may run out of control, making it more likely the Fed will need to raise interest rates sooner to stave off price increases. Concerns that growth is slowing, on the other hand, could boost bonds, especially if data dampens the attraction of riskier assets, including stocks.
The data will come ahead of a $21 billion reopening of 10-year notes, and with the note's yields sitting in the middle of their recent range, market participants will be watching closely to see how much demand there is for the debt. Ten-year note yields fell 9 basis points to 3.50 percent on Tuesday, but remain in the middle of their recent range, after reaching a high of 3.77 percent in February and 3.14 percent in March.
The notes have tested technical support at yields around 3.60 percent in recent days, and are also seen having resistance in the band between 3.45 percent and 3.52 percent. BNP Paribas expects the note yields to slowly grind higher and trade at around 3.75 percent by the end of the second quarter. However, "right now there are so many risk events around the world, any minor headline can weigh on stocks and give bonds a bid," said Suvrat Prakash, interest rate strategist at the bank in New York. A $32 billion sale of three-year notes drew good demand on Tuesday and priced with a high yield of 1.24 percent, slightly below where they had traded ahead of the auction.