Bond Report: Treasury yields rise led by 2-year after hawkish comments by Fed’s Kashkari

What’s happening

• The yield on the 2-year Treasury TMUBMUSD02Y, 3.347% rose to 3.347% from Tuesday’s level of 3.304%.
• The yield on the 10-year Treasury TMUBMUSD10Y, 3.116% advanced to 3.095% from 3.053% Tuesday afternoon.
• The yield on the 30-year Treasury  TMUBMUSD30Y, 3.310% rose to 3.295% from 3.255% on Tuesday.
• Tuesday’s levels were the highest for the 10- and 30-year rates since July 8, based on 3 p.m. levels.

What’s driving markets

On Tuesday, Kashkari, president of the Minneapolis Fed, said that the central bank needs to push ahead with tightening monetary policy until inflation is clearly moving down. Inflation levels of 8% or 9% “run the risk of  un-anchoring inflation expectations” and, if that happened, the Fed would likely have to embark on very aggressive rate rises to restore balance, he said.

Attention remains on Friday’s remarks by Federal Reserve Chairman Jerome Powell, to be delivered at the central bank’s annual symposium in Jackson Hole, Wyo. Powell is seen by analysts as likely to emphasize that the Fed remains aware of the inflation problem and needs to see more signs that it’s rolling over, though some like JPMorgan Chase & Co.’s Phil Camporeale question whether the Fed chair would have to be overly hawkish.

Traders and investors have been grappling with two different narratives in financial markets — one of troublingly high inflation that forces policy makers to keep aggressively raising borrowing costs, and the other of an economic slowdown that fixes the inflation problem and prompts the Fed to pivot. 

As of Wednesday morning, fed funds futures traders were back to pricing in a better-than-not chance of another 75-basis-point hike in September, with a 58.5% likelihood seen, according to the CME FedWatch Tool. Such a move would lift the fed funds rate target to between 3% and 3.25% versus a current level of 2.25% to 2.5%.

Data released on Wednesday showed that U.S. durable-goods orders fell flat in July, though a measure of business spending rose 0.4% last month in a relatively good sign for the economy. Meanwhile, pending home sales dipped by 1% last month.

What analysts are saying

“Jackson Hole 2022 is the halftime show of this hiking cycle,” said economist Derek Tang at Monetary Policy Analytics in Washington. “Every care will be taken to make sure there are no word-choice malfunctions.”

“The pattern of ‘ongoing’ rate hikes will remain in focus even as the Fed wants to shift attention to the current and terminal funds rate” and whether they are restraining real activity, Tang wrote in a note. “Powell’s performance will convince the audience that the Fed is serious about inflation within the context of the dual mandate.”

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