Well, it’s probably a stretch to say the next installment in the Fed’s tightening cycle is finally here. After all, as Bloomberg's Richard Breslow, a former FX trader and fund manager, notes, it was only a couple of weeks ago that this foregone conclusion wasn’t even on the market’s radar.
The abrupt about-face was jarring and out of character in its timing, but I like the lack of overbearing hand-holding.
It’s about time that forward guidance doesn’t have to mean as far as the eye can see. Is the Fed behind the curve? Are they letting the economy run hot? Not to any dangerous extent. But that doesn’t mean it’s not time to start getting on with things and make some faster progress toward the still very-low levels that might approximate the neutral rate.
Unfortunately, the market will still be fixated on the notion of whether it’ll be a dovish or a hawkish hike. We’ll get a hike, most likely more upbeat projections and assurances that if things keep evolving as they have and according to forecast there will be opportunities to do more. The Fed’s thinking three would be nice this year. The market is pricing less than that. Guess what? They’re unlikely to say they were only kidding.
But you’re not going to get some blanket pre-commitment, data-dependency didn’t die. You’ll also hear from a committee that’s a lot less afraid of making a mistake. If that’s not good enough for you, than your spirit may be permanently impaired.
Is the economy firing on all cylinders? No. But it’s doing well enough to justify and handle rates that don’t imply crisis. Yesterday’s release of NFIB Small Business Optimism showed it’s holding at levels not seen since 2005. It doesn’t get a ton of attention but it’s soft data that can translate into hard wage and, yes, productivity increases.
Active traders are short bonds. I’m warned, therefore, to be careful of some massive rally. I’m skeptical. A market of this size will require a change of perceptions to be bullied for more than a very short amount of time by some short- covering. If people begin to think 10-year Treasuries are going north of 3%, do you really think there aren’t enough longs to fill in the bids?
Crowded trades may indeed have structural buffers built in, may even have short-term corrections from panics, but there’s no immutable law that says they can’t work if they’re right.
Interstingly, Bloomberg's Wes Goodman suggests the opposite might happen with a Fed rate-hike actually sending Treasury yields lower...
The last two Fed hikes marked a peak in Treasury yields, and the same thing will probably happen now, said Toshifumi Sugimoto at Capital Asset Management in Tokyo. Higher borrowing costs keep inflation in check and support demand for U.S. government debt, he said.
Two-year break-even rates and oil prices are plunging, underscoring concern the Fed has yet to end the risk of disinflation.
Benchmark 10-year yields have failed to hold above 2.6 percent, the level bond market guru Bill Gross said will signal the start of a bear market if sustained on a weekly basis. Instead of breaking to higher levels, rising yields are drawing demand.
Treasuries offer a growing premium over their peers. U.S. two-year notes yielded as much as 223 basis points over like-maturity German securities earlier this month, the biggest spread since 2000 and another reason to favor U.S. debt.
There will be many different issues to focus on from this meeting -- the dot plot, the phrasing around the balance of risks, and any mention of balance sheet management -- so the short-term reaction may be volatile. Don’t be scared off by any initial yield spike.
Either way, we will see very soon.