NEW YORK: US Treasury yields were modestly lower on Friday as the market reassessed expectations over the Federal Reserve’s tightening path, while data pointed to lower inflation expectations and economic activity holding up.
A stubbornly high inflation reading this week sparked concerns the central bank may increase interest rates by a supersized 100 basis points hike, but both Fed Governors Christopher Waller and St. Louis Fed President James Bullard said on Thursday they supported another 75 basis points increase at July’s policy meeting.
On Friday, too, Fed officials signaled they would likely stick with a 75 basis points rate hike this month.
Their remarks were the last before policymakers enter a “blackout” period in which they are supposed to refrain from public statements before the policy-setting Federal Open Market Committee (FOMC) gathers.
“There’s a real battle going on right now for how the Fed is going to approach this situation; they’ve got a really serious problem here,” said Dean Smith, chief strategist at FolioBeyond.
“That’s what’s causing wild swings in rates,” he said.
Yields on the 10-year benchmark US government bonds went down to 2.93% on Friday from 2.959% on Thursday, while yields on two-year debt, which are more sensitive to rate expectations, declined to 3.138% on Friday from 3.145%.
US consumers tempered their inflation expectations in July, a potential signal the Fed’s policy tightening is helping to prevent expectations for high inflation from becoming embedded. The two-year Treasury yield dropped after the University of Michigan’s preliminary survey of consumers for July showed consumers see inflation running at 2.8% over a five-year horizon, the lowest in a year and down from 3.1% in June.
Concerns that the Fed may have to accelerate monetary policy tightening to fight inflation, however, continued to linger.
While traders have priced in a 75 basis points rate hike at the Fed meeting scheduled for July 26-27, odds of a 100 basis points rate hike have grown recently.
“There’s a big gap between the July FOMC meeting and the next meeting, which is in September,” said Jonathan Duensing, head of fixed income, US and portfolio manager at Amundi US
“So there’s a lot of data and I feel there’s plenty of cover for the Fed and (Fed Chair) Powell to say, this is how committed we are to getting ourselves to at a minimum neutral, because 100 basis points really just puts them in the middle of what they regard as the neutral rate range of 2% to 3%,” he said.
Commerce Department data on Friday showed that US retail sales increased more than expected in June, but for Capital Economics, when taking into account higher prices, real consumption remained stagnant.
“That’s unlikely to be enough to convince the Fed to step up the pace of tightening to 100bp at the meeting this month. ... But it does provide further reassurance that the economy isn’t plunging into recession,” it said in a note.