By Min Zeng 
 

Investors piled into the safety of U.S. government bonds to preserve capital, sending yields plunging broadly toward record lows as the U.K. vote in favor of leaving the European Union rattled global financial markets.

Debt outside the U.S. also drew strong demand with the yield on 10-year government bonds in Japan, Germany and the U.K. all falling to new lows.

The buying spree sent the yield on the benchmark 10-year note to 1.419% earlier Friday, according to Tradeweb. It was just a tad above its record low of 1.404% set in July 2012. Yields fall as bond prices rise.

The 10-year yield logged the biggest one-day decline since November 2011. The yield on the two-year note at one point posted the biggest one-day decline since September 2008.

The latest flight to safety comes as investors grapple with a sluggish global growth outlook and rising skepticism over central banks' ability to combat soft growth and low inflation. Economists have warned for months that a U.K. exit from the EU, or "Brexit," would roil markets and undercut the global trade and growth. Investors are concerned that this could potentially undermine U.S. economic growth, so far the bright spot in the world.

"The markets are reacting to the uncertainties," said James Athey, a money manager at Aberdeen Asset Management which has $420.9 billion under management. "The big risk now is a big negative shock to the global economy."

Trading was the most turbulent during the Asian and European sessions as investors scrambled to reduce risk and protect capital. During the North American session, bond yields bounced off their intraday lows. The 10-year Treasury yield settled at 1.577% late Friday, still down sharply from 1.741% Thursday.

Kevin Giddis, head of fixed-income capital markets at Raymond James, said investors need to brace for more volatile trading ahead. "For all of us, including our customers, these are uncharted waters," he said.

Larry Milstein, head of government and agency trading at R.W. Pressprich, said the market move is "reminiscent of 2008," when the market was sent into turmoil with the collapse of Lehman Brothers Holdings Inc. Back then, "it was fear about the collapse of the financial system," and this time "it is more about impact on longer-term global growth outlook," he said.

Mr. Milstein said many of his clients didn't chase the rally in Treasury debt. "Don't make hasty moves in this environment, especially with thin liquidity," he said.

The 10-year Treasury yield has tumbled from 2.273% at the end of 2015, driven by record-low yields in Japan and Europe, tepid global demand, the Federal Reserve's cautious approach in raising rates and continued large bond purchases by central banks overseas.

There is a growing belief in financial markets that the Fed may not be able to raise interest rates this year, especially if the momentum in U.S. growth slows.

The interest-rate futures market has even started to price in a minor chance that the Fed may need to reverse its tightening policy, underscoring investor anxiety from the potential fallout from Brexit.

Fed funds futures--a popular tool for hedge funds and money managers to place bets on the Fed's future policy moves--showed Friday there were a 7% probability that the Fed may cut its interest rates by its July meeting, compared with no chance a day ago, according to CME Group.

Analysts caution that the risk aversion in markets may distort signals regarding the Fed's policy expectations. Alex Manzara, vice president of rate futures at R.J. O'Brien & Associates in Chicago, said the small rate-cut expectations point to fragile sentiment as the Brexit vote is likely to hurt worldwide trade and undercut the global growth outlook.

"Things could snowball," said Mr. Manzara. "There are just a lot of uncertainties right now."

The yield on the two-year Treasury note, highly sensitive to the Fed's policy outlook, closed at 0.653% Friday, down from 0.779% Thursday. It was the yield's biggest one-day decline since March 2009.

Inflation expectations in the bond market dropped sharply, which may complicate the Fed's plan in raising rates this year.

The 10-year break-even rate, or the yield spread between the 10-year Treasury note and the 10-year Treasury inflation-protected bond, was down 0.08 percentage point at 1.46 percentage points, near its 2016 low. It suggests investors expect the U.S.'s annual inflation rate to run at 1.46% on average over the next decade, moving away from the Fed's 2% target.

Zhiwei Ren, managing director and portfolio manager at Penn Mutual Asset Management Inc., which has $20 billion in assets under management, said he isn't buying Treasury bonds given thin liquidity and low yields.

Mr. Ren had boosted cash holdings recently and refrained from putting big bets either way. He added that market turmoil may provide a buying opportunity for beaten-down assets.

 
COUPON  ISSUE    PRICE      CHANGE     YIELD    CHANGE 
7/8%    2-year   99 30/32   up 8/32    0.653%   -12.6BP 
7/8%    3-year   100 10/32  up 13/32   0.768%   -14.4BP 
1 3/8%  5-year   100 4/32   up 24/32   1.096%   -15.8BP 
1 5/8%  7-year   100        up 1 4/32  1.375%   -17.3BP 
1 5/8%  10-year  100 12/32  up 1 13/32 1.577%   -15.5BP 
2 1/2%  30-year  101 13/32  up 2 19/32 2.426%   -12.4BP 
 
2-10-Yr Yield Spread: +92.4BPS vs +96.2BPS 
 

Source: Tradeweb/WSJ Market Data Group

-Write to Min Zeng at min.zeng@wsj.com

(END) Dow Jones Newswires

June 24, 2016 16:37 ET (20:37 GMT)