Treasury Yields Are Mostly Lower Ahead of the Fed Decision

On Wednesday morning, rates on most U.S. government debt experienced a decline as traders took into account the possibility of rate cuts in 2024, ahead of the Federal Reserve's policy announcement later in the day.

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Specifically, the yield on the 2-year Treasury remained largely unchanged at 4.899% compared to 4.891% on Tuesday. The yield on the 10-year Treasury retreated by 4.2 basis points to 3.869% from 3.911% on Tuesday. Similarly, the yield on the 30-year Treasury fell by 3.4 basis points to 3.918% from 3.952% on Tuesday.

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The Federal Reserve is scheduled to release its policy decision at 2 p.m. Eastern time, followed by a press conference by Chairman Jerome Powell. It is widely expected that the central bank will raise its benchmark interest rate by 25 basis points during this announcement. However, there is uncertainty about whether this hike will be the final one in the current cycle.

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Market sentiment, as reflected in Fed funds futures trading, indicates a 96.5% probability of a 25-basis-point rate increase, bringing the interest rate range to 5.25%-5.5%. Traders also assign a 22.1% chance of another 25-basis-point hike in either the September or November meetings, which would lead to an interest rate range of 5.5%-5.75%.

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Mohamed El-Erian, an adviser to Allianz and Gramercy, commented that if the Federal Reserve indeed raises interest rates as expected, questions may arise about why the central bank chose not to act in the previous policy meeting in June. The inflation data released between the two meetings were better than expected, both for headline and core inflation.

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Economists predict that the central bank will eventually lower its fed funds rate target to around 5% or lower next year, as suggested by 30-day fed funds futures.

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Regarding economic data, new home sales for June were reported at a 697,000 annual rate, down from a revised 715,000 in the previous month.

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Later in the week, the European Central Bank and Bank of Japan will respectively announce their policy decisions on Thursday and Friday.

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Analysts from Rabobank, based in the Netherlands, expect a 25-basis-point rate hike at this meeting and anticipate no further hikes in 2023. They are open to the possibility of a further hike beyond July in 2023. However, they note that Powell's preference for a "more moderate pace" indicates a potential hike every other meeting, which would suggest a post-July meeting hike in November. Nevertheless, they anticipate a recession starting in the second half of the year and do not expect the Federal Reserve to raise rates during a recession.

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