Powell wins over bond traders dialing back bets on downturn

BLOOMBERG 

The bond market is finally getting in sync with Jerome Powell’s outlook for the economy. Traders have scrapped once-aggressive wagers that the Federal Reserve chief would pivot to easing policy before the end of this year, reflecting deeply diminished expectations that the central bank’s rate hikes are poised to set off a sharp recession. Bond yields have risen back towards levels seen before the panic sown by Silicon Valley Bank’s collapse. And even with policymakers seeing a chance for two more rate increases in the months ahead, the US economy is expected to hold up fairly well, unlike Europe’s, which is showing signs of stalling.
“A realisation is setting in that the Fed isn’t going to be cutting interest rates this year,” said Greg Peters, co-chief investment officer PGIM Fixed Income. “It’s a kind of an ‘ah-ha’ moment being priced in by the market that central bankers mean what they say.” The divergent outlooks in the US and Europe were underscored, when S&P Global purchasing managers indexes indicated that growth nearly stalled in the euro area this month but continued in the US, albeit at a slower pace.
The reports fuelled a large rally in the European government bond market as investors shifted into havens, with US Treasuries posting smaller gains.
Nevertheless, the figures highlighted the risk of a slowdown in global growth that would weigh on the US. And markets have been anticipating that the economy will slow, even if the US only narrowly avoids a recession this year.
After Powell told US lawmakers that more rate hikes are likely, 10-year yields slipped to a full percentage point below 2-year rates, deepening a yield curve inversion that’s usually seen as a harbinger of a recession. But that was largely because of an upward jump in short-term rates as longer-term ones held little changed.
While swaps traders have pushed out the expected cuts until next year, they expect that the Fed’s key rate will still remain high enough to curb growth. That means policymakers are still expected to be focussed on inflation, not trying to jump-start growth.
Powell told the Senate Banking Committee on that “we will do what it takes to get inflation down to 2% over time.” He
said that two more rate hikes were possible this year and he didn’t see a reduction in rates “happening anytime soon.”
Powell will be speaking this coming week at several global events, potentially giving more insights on the policy outlook. The personal consumption expenditures price index is forecast to slow to an annual pace of 3.8% in May from 4.4% in April, according to economists surveyed by Bloomberg. The core measure, which excludes food and energy, is predicted to hold steady again at a 4.7% level. “If you look at some of the indicators of inflation in the US,
they are clearly coming down,” Thierry Wizman, global interest rates and currency strategist at Macquarie, said on Bloomberg Television. “In the back half of the year you are going to finally see that so-called stickiness we are seeing in” several inflation indices “start to recede and come down. I think the market understands that.” With the outlook growing less uncertain, the swings in the bond market have been less severe.