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Bond Yields Fall Ahead of Federal Reserve's Monetary Policy Decision

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Andrew R. Michaud

• January 31, 2024

Bond Yields Fall Ahead of Federal Reserve's Monetary Policy Decision

Bond yields took a dip on Wednesday as traders prepared for the Federal Reserve's upcoming monetary policy decision. The yield on the 2-year Treasury fell by 2.1 basis points to 4.312%, while the yield on the 10-year Treasury dropped 1.7 basis points to 4.106%. Additionally, the 30-year Treasury yield eased by 1.2 basis points to 4.243%. It's important to note that yields move in the opposite direction to prices.

Factors Influencing the Market

China's factory activity contracting for the fourth consecutive month in January contributed to the softer government bond yields. However, the main focus for investors was on the U.S. Federal Reserve.

According to the CME FedWatch Tool, there is a 97.9% probability that the U.S. central bank will announce later in the day that interest rates will remain unchanged at a range of 5.25% to 5.50%. While this prediction seems highly likely, investors are more interested in what the accompanying statement from the Fed and Chair Jerome Powell's press conference will reveal about the future direction of policy.

Market expectations indicate a 45.6% chance of at least a 25 basis point rate cut at the next meeting in March, with a higher probability of no change at 54.4%. Interestingly, just a month ago, the probability of a rate cut in March was much higher at 88.5%. This change reflects stronger than expected jobs data and warnings from Fed officials about the ongoing battle against inflation.

U.S. Consumer Price Index Inflation Drops to 3.4% in December

The U.S. consumer price index inflation in December saw a significant decline from the multi-decade high of 9.1% experienced in June 2022. However, it still remains above the Federal Reserve's target of 2%.

Fresh Batch of U.S. Economic Data

As the Federal Reserve wraps up its discussions, it will have access to new U.S. economic data to analyze. This includes the ADP private sector employment report for January, which is scheduled for release at 8:15 a.m. Eastern, and the fourth quarter 2023 employment cost index at 8:30 a.m. Additionally, the Chicago Business Barometer for January will be made available at 9:45 a.m.

Treasury Quarterly Refunding Announcement

Investors will also pay attention to the Treasury quarterly refunding announcement at 8:30 a.m., where the government will disclose the amount and maturity of bonds it intends to sell in the coming months.

Fed's Signal on Rate Cuts

While it is widely anticipated that the Fed will maintain unchanged rates today, the focus is on what they will communicate regarding the timing and pace of future rate cuts. In December, their dot plot indicated a projection of 75 basis points of cuts for this year, which resulted in a significant market rally.

According to Jim Reid, a strategist at Deutsche Bank, there is an expectation that the FOMC will move away from a tightening bias in their next statement and drop the reference to "the extent of additional policy firming." Looking ahead to the March meeting, economists believe that Powell will keep the option of a rate cut open but won't express urgency, leaving the timing of any potential move undecided.