Bond Bulls in Retreat as Powell Shows No Urgency, Stocks Surge
Bloomberg – Treasuries tumbled, pushing yields up from multiyear lows, after Federal Reserve Chairman Jerome Powell opened the door to possible interest-rate cuts while stopping short of signaling any kind of imminent move.
Powell signaled a willingness to lower borrowing costs if necessary amid trade friction, and stocks surged based on that as risk appetite recovered and lured money from haven assets. As the dust settled, traders had trimmed bets on policy easing, a shift that started earlier Tuesday after Chicago Fed President Charles Evans stopped short of endorsing the idea that the central bank should cut rates.
Derivatives imply that the effective fed funds rate of 2.38% will fall to around 1.78% by year-end, up from the 1.68% level seen Monday — close to the extreme as far as the depth of cuts priced in for 2019. The takeaway for traders is that Fed rhetoric may be starting to affirm market expectations for policy easing, but those bets still fly in the face of stable U.S. growth and the chance that trade tension may ease. Also worth noting: Technical indicators as of the close on Monday showed bonds were the most overbought since 1998.
“The Fed is open to adjusting policy but there isn’t a sense of urgency about cuts as they are just monitoring overall market conditions and economic fundamentals,’’ said Subadra Rajappa, head of U.S. rates strategy at Societe Generale SA. “Yields are higher given the Treasury market was very overbought yesterday and equities are rising and the U.S. economy is really fine overall. That’s the tug of war you are seeing in the bond market.”
Benchmark Treasury 10-year yields, which sank to about 2.06% Monday, the lowest since September 2017, last traded at 2.14%.
Officials are “closely monitoring the implications of these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the expansion, with a strong labor market and inflation near our symmetric 2% objective,” Powell said in remarks at a conference at the Chicago Fed. He also said that using policy to boost inflation may risk market excess.
Evans said on CNBC earlier Tuesday that the real side of the U.S. economy was solid, even though risks had increased. He added that the Fed can look through price increases from tariffs.
“The door is now open to a rate cut discussion at the June meeting in two weeks,’’ Christopher Low, chief economist at FTN Financial, wrote in a note Tuesday. But “based on recent participants’ comments, including Evans’ this morning, there will not be much support for a cut.’’
Fed policy makers next meet June 18-19 in Washington. Emboldening traders to stand pat on wagers for rate cuts, Federal Open Market Committee voter St. Louis Fed President James Bullard on Monday effectively endorsed the market’s take. He said a rate cut may be needed “soon” amid the trade war.
One of the bond market’s key recession signals is still flashing. Ten-year yields were about 21 basis points below three-month rates, close to the most inverted level since 2007. The San Francisco Fed calls this part of the curve the most useful for forecasting downturns.
“There is now a deep expectation that the Fed will deliver rate cuts, and that goes along with a sense that the yield curve has some self-fulfilling market views,” said Mark Spindel, chief investment officer at Potomac River Capital.