Treasury Traders Saying “Cut” Rates, Fed Policymakers Saying “Be Patient”

Surrounding last Wednesday‘s release of the minutes from the U.S. Federal Reserve’s monetary policy meeting on May 1-2, were comments, remarks and speeches from several Federal Open Market Committee members. Some members supported current Fed policy and some opposed it, but they all seemed to be on the same page when it came to an escalation of the trade dispute between the United States and China.

There were no surprises from the Fed minutes or the FOMC members. Therefore, the markets didn‘t react much to what they were saying. Treasury traders seemed to think differently, however, driving yields to multi-month lows in anticipation of a rate cut later this year. This raises the question about who is going to be right on the direction of interest rates, the speculators who are betting on a rate cut, and the FOMC which can’t make up its mind.

Fed Minutes Offer No Surprises

Treasury investors are pricing in a rate cut by the end of the year, but the minutes of the Feds May policy meeting released last Wednesday showed officials expect patience on rates to be appropriate for “some time.” Policymakers also upped their growth outlooks and agreed with Chairman Jerome Powell that recent softness in prices was temporary.

Federal Reserve Chairman Jerome Powell

Fed Chair Powell didnt talk about monetary policy in a speech on Monday, but he did say corporate debt is near record levels, but is not posing a larger threat to the financial system. He further added that problems could occur if the economy weakens, though banks are prepared to handle any sudden problems. Furthermore, he added, the Fed “continues to assess the potential amplification of such stresses on borrowers” but called those risks “moderate” at this point.

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Boston Fed President Eric Rosengren

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Rosengren says the ongoing economic conflict between the worlds largest powerhouses is a “prominent downside risk.” He says it seems to be an “important reason for policymaker patience until this source of uncertainty is more resolved.”

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“While my baseline forecast assumes that a trade agreement will occur without seriously disrupting global trade or global economies, it may be some time before that uncertainty is resolved,” Rosengren added.

St. Louis Fed President James Bullard

Bullard moved the markets last week when he said the Fed may have “slightly overdone it” when it last raised interest rates by a quarter point in December.

“Rates are at a good place in the U.S. right now, if anything we are a little restrictive I would say,” Bullard said on Bloomberg Television from Hong Kong. “I am concerned we may have slightly overdone it with our December rate hike, but I was pleased that the committee pivoted.”

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New York Fed President John Williams

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Williams said last week that U.S. interest rates are in the right place given a strong economy and “essentially nonexistent” inflation pressures. He further emphasized that there is not currently a strong argument for changing rates, including as a response to low inflation readings that may be due to temporary factors.

“We need to make sure that we continue with a strong expansion, the strong economy, in a way that leads to inflation moving back to our symmetric 2% goal,” Williams said in response to a question on whether a rate cut could help support inflation.

“If that requires an adjustment of monetary policy down the road at some point then, based on all that analysis and evaluation, if that‘s appropriate then I think we should do that. I don’t think we‘re at that point today, and I don’t think well be at that point in the very near future.”

What the Treasury Market is Saying

Fed Fund futures are currently pricing in 50% chance of a cut in September and a full 25 basis-point cut by December. Traders are also looking for another rate cut for next year. As the trade war drags on the data-dependent Fed will have an easy choice in cutting rates. To some the question is not will they deliver a shift, but when.