A hot US economy is pushing real interest rates to their highest levels in 15 years after Powell’s speech

Of all the possible outcomes from Friday’s Jackson Hole speech by Federal Reserve Chairman Jerome Powell, traders are settling on the speech where policymakers will likely need to address a US economy that appears to be in the process of re-accelerating.

The policy-sensitive 2-year Treasury yield BX:TMUBMUSD02Y briefly touched 5.1% before closing at 5.054%, its highest level since March 8th. Meanwhile, the yield on the 5-year Treasury Inflation-Protected Note, known as the real rate, was traded. at 2.215%, or one of its highest levels since November 2008, according to 3pm ET data from Tradeweb. A rise in the 5-year TIPS rate helped lift the 5-year Treasury yield. BX:TMUBMUSD05Y.

Source: Tradeweb

Taken together, these moves illustrated the market’s view that the Fed is unlikely to finish raising interest rates and that the underlying US economy remains hot. The TIPS rate reflects how the economy is likely to perform when inflation is not a factor, and now shows stronger prospects beyond the next few years.

is reading: One strategist says the rise in Treasury yields is due almost entirely to one factor

Considering the Federal Reserve Bank of Atlanta GDP forecasting model Mark Chandler, chief market strategist at Bannockburn Global Forex in New York, points to a 5.9% growth rate for real GDP in the third quarter, “even if it’s half that, the economy is still accelerating”. The world’s largest economy grew at a solid pace of 2% in the first quarter, followed by a 2.4% pace in the second quarter.

“I got into the market on Powell’s speech thinking he was dovish, with stocks higher and the dollar lower,” Chandler said in a phone interview. It was only after he finished, he said, that “markets went back to lowering stocks and higher in the dollar” as Treasury yields rose. Stocks then reversed course again, with all three DJIA SPX COMP major indices closing higher on Friday.

The 1- to 10-year Treasury yields ended higher, with the 2-year Treasury underperforming and the corresponding yield briefly rising as much as 9.4 basis points, as traders and investors focused on the more hawkish aspects of Powell’s remarks. However, the 20- and 30-year Treasury yields (BX:TMUBMUSD30Y) ended lower, as traders assessed the potential long-term impact of the Fed chair’s comments.

Powell said policymakers are prepared to raise interest rates further if appropriate and inflation remains too high. He also said that officials will watch carefully as they assess the incoming data, and that “restrictive policy is likely to play an increasing role” in returning inflation to the Fed’s 2% target.

“There is some concern about stronger economic activity recently that could keep inflation elevated,” said Mike Sanders, head of fixed income at Madison Investments in Madison, Wisconsin, which oversees more than $20 billion in assets.

“We find the rhetoric a bit hard-line,” he wrote in an email to MarketWatch. “With recent data pointing to better-than-expected economic growth, we believe the stakes are slightly higher for a further increase.”

In fact, the market’s implied chances that policymakers will raise the Fed funds rate target in November or December – to at least 5.5% to 5.75% – crept in after Powell’s comments.

Will Cumbernole, a strategist at FHN Financial in New York, said Powell brought up “a lot of familiar themes”. But what matters most is the “focus point”, and he said Powell views the momentum in hyperinflation, which excludes food, energy and housing, as “a horizontal position, with little sign of improvement once all the noise is over”.

“The economy has taken a kick, it hasn’t collapsed, and it is showing signs of accelerating again. The economy is not only hot, it’s likely to grow faster,” Combernole said by phone, given the Fed’s long-term expectation of growth of about 1.8%, anything higher than that “will encourage the Fed to tighten further and give policymakers a little more license to tighten monetary policy because the economy does not slide into recession.”

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