FILE PHOTO: A view shows a bronze seal beside a door at the U.S. Treasury building in Washington, U.S., January 20, 2023. REUTERS/Kevin Lamarque/File Photo
NEW YORK: Bond traders are hoping to coast to the end of a volatile year – unless a surprise jump in inflation throws them another curve.
Treasuries extended their recent rebound last Friday after the monthly jobs report indicated the labour market was cooling enough to allow the Federal Reserve (Fed ) to cut interest rates again at the end of its meeting on Dec 18.
The employment data was seen as one of the market’s last key indicators until then aside from the consumer and producer price reports coming this week, which are expected to show little increase in inflation pressures.
“Unless consumer price index surprises massively to the higher side, the Fed’s baseline is to cut this month given they feel their policy is still restrictive,” said Gang Hu, managing partner at Winshore Capital Partners. “So I think treasury yields have peaked.”
That widespread conviction is giving investors a reprieve from the bond market sell-off that crested in November as Donald Trump’s presidential victory raised the risk that his tariff and tax cut plans would rekindle inflation.
Since then, however, yields have drifted back down on speculation the Fed will ease policy again at this month’s gathering, its last before Trump takes office, as it tries to steer the economy to a soft landing.
The benchmark 10-year treasury yield has dropped to about 4.15% since hitting a post-election high of 4.5% on Nov 15.
That helped push treasuries to 2.4% this year through Dec. 5, according to a Bloombeg index.
The period of calm may prove relatively brief, however, due to the significant uncertainty about the outlook. Much of that stems from questions about shifts in policy under Trump, whose tax cut plans would pour stimulus on an already strong economy and likely increase the pace of bond sales by adding to the deficit.
His tariff plans are another wildcard, one that could push up import prices and exert a drag on global trade, depending on the shape they take.
Those questions are likely to limit the bond market’s gains as traders and Fed policymakers take a wait-and-see approach.
Swaps pricing indicates that policymakers are likely to hold off on cutting rates at the January meeting.
“The US economy is very resilient,” said Tracy Chen, a portfolio manager at Brandywine Global Investment Management.
“The Fed is probably closer to a pause in its cutting cycle, with them pausing sometime early next year to recalibrate to Trump’s policy and upcoming data.”
For the Fed, sticky inflation will likely suggest caution when weighing a rate cut at the December meeting.
The employment data released last Friday lent support to the view that the Fed’s still restrictive policy is cooling the economy.
While hiring rebounded in November from the previous month’s slowdown – due in part to hurricanes – the unemployment rate surprisingly increased.
The snapshot was seen as likely to give Fed officials room to ease again this month unless this week’s inflation reports showed an unexpected acceleration.
The median of forecasters surveyed by Bloomberg predicts that core consumer prices, which are seen as the best gauge of underlying inflation pressure, rose 0.3% in November, the same pace as a month earlier.
The figures will come out as Fed officials are in their traditional blackout period on public comments ahead of the meeting.
“Every indication is that there will be a cut in December, but inflation is still a pretty big thing so there’s some slight tail risk around the CPI release,” said Amar Reganti, fixed-income strategist at Hartford Funds.
“But, given the fall in treasury yields we’ve already had since November, it’s hard to see them fall too much further unless we really start seeing much softer inflation,” he said. — Bloomberg
