The bond market is ready for the Federal Reserve.
On Tuesday, the yield on the 2-year Treasury note spiked to a four-year high of 0.78%. Other short-term bond yields, including the 1-year and 6-month bills, climbed to multi-year highs. Yields rise as bond prices fall.
Yields on short-term treasuries are the most sensitive to interest rates and the Fed’s outlook. On Thursday, the Fed will announce its latest monetary policy decision, which could see the benchmark Fed funds rate rise from near zero for the first time in nine years.
In a note Friday, Morgan Stanley’s interest rate strategists forecast a move higher to 0.73% for the 2-year yield in a scenario where the Fed signals a forthcoming rate hike in October or December without moving this month.
If the Fed does hike on Thursday, unlike markets expect, Morgan Stanley forecast the yield rising to 0.90%.
And so the recent move in the 2-year does not imply that traders expect the Fed to lift rates this Thursday. It does, however, indicate that the bond market is positioning for higher rates.
Priya Misra, head of global rates strategy at TD Securities, told Business Insider (emphasis added), “The 2y at the highest yield in 4 years is a sense that whether the Fed goes or not later this week, we are the closest we have ever been to the start of the hiking cycle. Investors may be buying protection in case of a hike or a no hike but hawkish message from the Fed.”
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