St. Louis Fed Chairman James Bullard threw a grenade at rates markets on Thursday afternoon, backing falling fed funds rates 1% after three meetings.
“Bullard’s remarks helped accelerate the revaluation policy that had already begun after the CPI,” said Deutsche Bank’s Jim Reid.
The front end of the yield curve looked free as 2-year Treasury yields (NASDAQ: shy) jumped 20 basis points. 10-year yield (NYSEARCA:TBT) (NASDAQ: TLT) pushed further above 2%, a level it had not reached since August 2019.
The 2s-10s spread has fallen to around 40bps from 90bps at the start of the year. This is the gap to watch in the event of a reversal, which usually precedes a recession.
The market is now pricing in a nearly 100% chance of a 50 basis point rise. Those odds were less than 50% to start the week. He also puts the odds of hitting 1% in three meetings at almost 100%, in line with what Bullard argued. By the end of the year, fed funds futures are tilting towards the benchmark rate reaching 1.75% or more.
“Even if inflation slows over the next two months, the odds that a move between meetings or a 50 basis point move in March will turn out to be a big mistake seems very small at this time,” Steve wrote. Englander, strategist of Standard Chartered.
Are the markets okay if the Fed throws in the towel? Inflation is the obvious reason for the rise in hawkish forecasts, but there is a sense that market sentiment has shifted towards a Fed policy error posing greater danger than higher rates.
For all rate and fluctuation discussions, the S&P 500 (SP500) (NYSEARCA: SPY) and the more rate-sensitive Nasdaq 100 (NDX) (NASDAQ: QQQ) enter Friday slightly in the green for the week.
“There is a broad consensus that the policy parameters are too loose, so removing some stimulus is not controversial,” Englander said. “If our forecast of a slowdown in inflation in the second quarter is correct, the pace of subsequent increases could be slowed. On the other hand, if inflation continues to accelerate while the Fed hesitates, there is a risk political error in the style of the 1970s.”
A February surprise? With 50 basis points in March, speculation has turned into the possibility that the Fed will pull the trigger sooner.
“February fed funds futures ended the day at 12.5 basis points, despite the fed funds rate printing at 8 basis points every day so far in February, implying a low probability of the Fed raising rates by the end of the month,” Reyd said.
“Even market participants seem to want the Fed to declare force majeure and deviate from the promised policy timetable, given the significant deviation of inflation from the narrow range envisioned when it was set up. of these policies,” Englander said. “In other words, what would be the appropriate policy position in the current circumstances, if there were no legacy of forward guidance?”
Societe Generale’s Kit Juckes says the chances of the Fed rising between meetings for the first time since 1994 are slim.
“These were days when fixed-income markets dominated stocks and bonds could spook policymakers,” Juckes wrote. “That Fed hike of 1994 was followed by a week of falling yields – even 2-year yields fell slightly – before the bear market returned with a vengeance.”
“An intra-meeting rise as monthly CPI data is slightly 0.1% higher in the month than expected, and we can all see that base effects will only become helpful to the inflation outlook. in the second quarter, could be interpreted as panic and seems unlikely. A 50 basis points is significantly less unlikely, if only because it is priced in.”
It is also important to remember that Bullard is not the only voice of the Fed. San Francisco Fed President Mary Daly, though not a voter, remained more dovish yesterday.
See two rate charts that keep stock investors up at night.