Treasurys flirt with five-week highs as central bankers continue to push back against rate-cut bets

Government bond yields were trading near their highest of the year after U.K. inflation picked up speed and central bank officials continued to try and damp optimism about interest rate cuts.

What’s happening

The yield on the 2-year Treasury
BX:TMUBMUSD02Y
rose by 5.5 basis points to 4.279%.

The yield on the 10-year Treasury
BX:TMUBMUSD10Y
eased 1 basis point to 4.057%.

The yield on the 30-year Treasury
BX:TMUBMUSD30Y
slipped by 2.3 basis points to 4.275%.

What’s driving markets

Ten-year Treasury yields at one point early Wednesday traded near a five week high around 4.08% after Federal Reserve governor Christopher Waller said Tuesday that the central bank will likely cut rates this year, but that the shift in monetary policy doesn’t have to be “rushed.”

“[T]hat was an explicit pushback on market pricing,” said Jim Reid, strategist at Deutsche Bank.

News from the U.K., where inflation unexpectedly accelerated to 4% in December, added to concerns that central banks may need to keep borrowing costs high for longer.

In addition, European Central Bank President Christine Lagarde said Wednesday that though it may be likely eurozone rates are cut later this year, it is not helpful that markets are pricing in the time and pace of such monetary easing so aggressively.

After all this, markets were pricing in a 97.4% probability that the Fed will leave interest rates unchanged at a range of 5.25% to 5.50% after its next meeting on January 31st, according to the CME FedWatch tool.

However, the chances of at least a 25 basis point cut in the Fed-funds rate by the subsequent meeting in March is priced at 63%, down from 81% on January 12.

The central bank is expected to take its Fed-funds rate target back down to around 3.92% by December 2024, according to 30-day Fed-Funds futures.

U.S. economic data due Wednesday include December retail sales alongside December import prices at 8:30 a.m. Eastern. Industrial production and capacity utilization for December will be published at 9:15 a.m. alongside November business inventories.

Home builder confidence in January is released at 10 a.m. followed at 2 p.m. by the Fed’s Beige Book of economic anecdotes from businesses.

The U.S. Treasury will auction $13 billion of 20-year bonds at 1 p.m.

What are analysts saying

“Despite PCE inflation (the Fed’s primary inflation gauge) being on target, the clear and unambiguous message from Fed members is that they’ll need to see some further sustained progress on inflation before seriously considering rate cuts,” said Stephen Innes, managing paartner at SPI Asset Management.

“Seemingly, there are still too many 3- and 4-handles on the various inflation metrics over the past 3 months for the Fed to pivot decisively into rate mode in March. Suggesting that the Feds are leaning more toward a mid-year start before considering removing some tightening from the system. Clearly, the rates market has gotten well out of step with the Fed by pricing aggressive rate cuts so soon,” Innes added.

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