The 10-year Treasury Yield Fell Below 4% as U.s. Inflation Expectations Dropped Across the Board

On Monday morning, Treasury yields experienced a decline, causing the benchmark 10-year rate to retreat below 4%. This shift followed the results of a December survey by the New York Fed, indicating a decrease in consumer expectations for inflation across various timeframes.

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The 2-year Treasury yield dropped by 8.1 basis points to 4.308%, down from 4.389% on the preceding Friday. In contrast, the 10-year Treasury yield witnessed a decline of 7.1 basis points, settling at 3.97% from the late Friday figure of 4.041%. Similarly, the 30-year Treasury yield decreased by 5.4 basis points to 4.145% from the Friday afternoon value of 4.199%. It is essential to note that yields and prices exhibit an inverse relationship.

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The catalyst for these market movements stemmed from the New York Fed's consumer expectations survey, released on Monday. The survey results indicated heightened confidence among Americans regarding the potential alleviation of price increases in the short, medium, and long term.

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In particular, the median inflation expectations for the upcoming year declined to 3%, marking the lowest level since January 2021, down from the previous figure of 3.4%. Furthermore, median inflation expectations at the three-year ahead horizon dropped to 2.6% from 3%, and for the five-year ahead period, it decreased to 2.5% from 2.7%.

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The upcoming focal point for U.S. inflation updates is the December consumer prices index report, scheduled for publication on Thursday. Economists anticipate an annual headline inflation rate of 3.3%, a slight increase from November's 3.1%. However, core inflation, which excludes volatile items like food and energy, is expected to ease to 3.8% from the previous figure of 4%.

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As of Monday afternoon, the market reflected a 66.3% probability of the central bank implementing a 25 basis points cut in borrowing costs by its March meeting. Additionally, traders priced in a more than 20% likelihood of seven quarter-point rate cuts by the year-end.

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Dallas Fed President Lorie Logan emphasized on Saturday that it is premature to rule out rate increases, given that inflation remains above the 2% target. She cautioned against prematurely easing financial conditions, as it could potentially lead to a resurgence in demand.

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Analysts, such as Solita Marcelli, Chief Investment Officer for the Americas at UBS Global Wealth Management, articulated a base case scenario anticipating a soft landing. This scenario envisions growth slightly below the trend, avoiding a U.S. recession, with inflation gradually aligning with central bank targets in the latter half of the year.

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Marcelli noted that while markets are pricing in more substantial rate cuts than their forecast, the Fed is striving to strike a balance between supporting the economy and responding to data suggesting a need for somewhat restrictive monetary policy based on the labor market and core inflation indicators.