What Does the Fed Do Now?


Kevin Gale, Managing Director, Head of Fixed Income

Concerns about contagion to the European banking system are weighing on the markets today. February Producer Price Index (PPI) came out well below expectations. Month-over-month, PPI was 0.0% versus expectations of +0.4%, while year-over-year, PPI was +4.4% versus expectations of +5.4%.

Combined, these two factors likely take the Federal Reserve off the table for next week. The market is pricing in a 50/50 probability of a 0.25% rate hike next week. The gigantic move has come in the forward outlook for the Fed. The market is now pricing in over 1.00% of rate cuts by January 2024. Whereas yesterday, the market was only pricing in 0.25% of rate cuts by January 2024.

Simply put, the moves we are seeing in treasury yields are unheard of. Today alone, the 2-Year treasury yield is down 0.54%, to 3.75%. On Wednesday of last week, the 2-Year note yield closed at 5.07%. In addition, the yield curve has become less inverted. On Wednesday last week, the 2-Year / 10-Year treasury yield curve was at -1.10% while today it is at -0.37%. The “yield curve” is the yield on the 10-year Treasury less the yield on the 2-year Treasury. Normally this is positive and the yield curve is upward-sloping. Currently (and for the last 12-months or so), it is negative, or inverted. Now, it is much less inverted than it was one week ago.

This confluence of events leads us to think that volatility is likely to remain for a bit.

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