Of all the possible takeaways from Fed Chairman Jerome Powell’s Jackson Hole speech on Friday, traders are opting for the one that will likely have policymakers grappling with the US economy, which appears to be in the process of rebounding.
The policy-sensitive 2-year government bond yield BX:TMUBMUSD02Y briefly hit 5.1% and is heading for a 16-17 year high close. Meanwhile, the 5-year government inflation-linked bond yield was 2.224% as of 1 p.m. ET and was on course for one of its highest closes since November 2008, according to Tradeweb data 5-year government bond yield to increase BX:TMUBMUSD05Y.
Taken together, these moves clarified the market’s view that the Fed is likely not done raising interest rates and that the underlying US economy remains hot. The TIPS rate reflects how the economy is likely to fare when inflation is not a factor and currently shows a brighter outlook beyond the next few years.
Read: The rise in government bond yields is almost entirely due to one factor, says the strategist
Considering that the Atlanta Fed’s GDPNow forecast model points to a real GDP growth rate of 5.9% in the third quarter, “even if it’s half that, the economy is still accelerating,” said Marc Chandler, chief markets strategist at Bannockburn Global Forex in New York. The world’s largest economy grew at a solid pace of 2% in the first quarter, followed by a pace of 2.4% in the second quarter.
“The market went into Powell’s speech thinking he was a dove, with higher stock prices and a weaker dollar,” Chandler said in a phone interview. It was only after he was done that “markets returned to lowering stocks and raising the dollar” as Treasury yields rose, he said. Shares then reversed course again, with all three major indexes DJIA SPX COMP returning to an uptrend as of Friday afternoon.
Yields on 1- to 7-year Treasuries also rose, with the 2-year Treasuries underperforming and their corresponding yield briefly rising by as much as 9.4 basis points as traders and investors focused on the more hawkish aspects of Powell’s comments.
The Fed chair said policymakers are ready to raise interest rates further if necessary and inflation remains too high. He also said policymakers will be cautious in assessing the incoming data and that “restrictive policies will likely play an increasing role” in bringing inflation back to the Fed’s 2 percent target.
Mike Sanders, head of fixed income at Madison Investments in Madison, Wisconsin, which manages more than $20 billion in assets, said: “There are some concerns about increased economic activity recently that could keep inflation higher. ”
“We consider the speech to be mildly restrictive,” he wrote in an email to MarketWatch. “With the latest data pointing to better-than-expected economic growth, we believe the risks of another rate hike are slightly higher.”
Indeed, the market implied odds that policymakers will raise the Fed’s interest rate target to 5.5%-5.75% in November or December increased slightly following Powell’s comments. As of Friday afternoon, BX:TMUBMUSD10Y 10-year interest rate was little changed. 20- and 30-year Treasury bond yields BX:TMUBMUSD30Y fell as traders weighed the likely long-term implications of the Fed Chair’s comments.
Powell presented “a lot of familiar themes,” said Will Compernolle, macro strategist at FHN Financial in New York. But what’s more important is “the center of gravity,” and Powell views the dynamics of supercore inflation, which excludes food, energy and housing, “as horizontal, with little sign of improvement once all the fuss is zeroed out,” said he .
“The economy has picked up, has not collapsed and is showing signs of picking up speed again. “Not only is the economy hot, it’s potentially growing even faster,” Compernolle said over the phone. Given the Fed’s long-term expectations for growth to hover around 1.8%, anything beyond that will “encourage the Fed to tighten more and give policymakers a little more room to tighten as the economy doesn’t.” sliding into recession.”
Source : www.marketwatch.com