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Federal Reserve Pauses Future Cuts; Bond Markets Signal Doubts

The Federal Reserve: The Federal Reserve has halted lowering rates. But the bond market is not convinced even after policymakers signaled the pause unless the economic outlook changes significantly.

Minutes following the Federal Reserve’s decision to cut rates for the third time meeting cited implications of global developments. Also, overnight swap rates fully priced out a December rate.  But the bond market still sees another possible reduction by November 2020.

Treasury yields dropped across the curve, with longer maturities leading.

Investors are trying to divine the Fed’s path as reactions intensify focus on crucial U.S data in the days ahead. The focus starts with Friday’s figures on the labor market and manufacturing.

Jerome Powell- the Fed Chairman, said the monetary policy was in the right place. However, Rich Sega thinks the reaction in the markets reflects a gloomy take on the economic outlook.

Sega says the rally in treasuries and lower yields following the press conference meant markets thought the economy was slowing and remained pessimistic.

Rich Sega is the global chief investment strategist at Conning. Conning manages about $171 billion in assets.

Powell’s positive assessment and the fleeting optimism

Powell, in a press conference, noted that risks around Brexit and trade tensions show signs of improvement.

On Wednesday, the benchmark 10-year Treasury yields dropped close to 7 basis points. On Thursday, they gained one basis point to 1.78% in Asia. The yield curve flattened while the Bloomberg Dollar index extended its declines.

Agreeing with Powell’s assessment is Chris Rands a Portfolio Manager at Nikko Asset Management in Sydney. Rands argued that bond markets have been too aggressive in pricing more cuts. According to him, Treasury yields will climb to 2% in 3-6 months.

Rands further says that markets are hitting their targets, with U.S unemployment being at its lowest in 50 years.

The Federal Reserve decision came after the Commerce Department reported better than expected economic growth in the third quarter. Consumer spending drove economic growth.

But despite the positive assessment, some fund managers and analysts suspect the brightening prospects may prove fleeting.

Wells Fargo thinks the cooling growth and simmering trade friction mean that policymakers will cut rates again in January, despite being held in December.

Erik Nelson- a strategist said rate cuts are based on further slowdown of U.S growth and a potential fragile trade peace between China and the USA to break down. He doesn’t think the worst of the downside risk for the Federal Reserve has passed yet.

Julio Callegari said any Treasury sell-offs are an opportunity to accumulate and opportunity to buy when it’ widening. He said that the next step was to still cut rates for 2020.

Callegari is a fixed income money manager at JPMorgan Asset Management.

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