Bond Market Pushes Recession Trades as Fed Hawks Take Flight

Bond traders are girding for the risk that Federal Reserve Chair Jerome Powell is ready, willing and able to plunge the US into recession to get the inflation bogey under control.

Yields on long-dated Treasuries dove in the wake of the Fed’s decision to push through a third straight 75 basis point interest-rate hike. The move was accompanied by projections showing rates will need to keep rising, and an admission from the central bank boss that this inflation fight will involve some pain.

Short-end rates for the first half of 2023 have already leaped higher, bringing market policy-rate expectations in line with those of officials near 4.6%, and indicating traders believe in the Fed’s determination to act aggressively until inflation is firmly trending lower. While the initial reaction was perhaps a bit too hawkish, the shakeout from bond and stock markets was that growth will ultimately suffer.

“If they are going meaningfully above 4% there is a strong chance of a recession,” said Andrzej Skiba, head of the BlueBay US fixed-income team at RBC Global Asset Management. “The front-end selling is telling you the dot plot was more hawkish, while the back end rally says recession is inevitable.”

Two-year Treasuries declined further Thursday, sending the yield 4 basis points higher to 4.09%. The curve between two and 10-years slumped to minus 58 basis points, virtually in line with an August low which was the deepest inversion since 1982. The 30-year yield was 2 basis points lower at 3.48%.

Treasury yield curve inversion extends after hawkish Fed