Several Federal Reserve officials signaled on Tuesday that the Federal Reserve would continue its aggressive fight against rising prices, causing short-dated Treasury yields to rise as investors priced in further rate hikes.
The two-year yield, which moves with interest rate expectations, jumped 0.19 percentage points to 3.06 percent, the biggest daily move since mid-June. The three-year yield rose 0.22 percentage points, also the biggest move since mid-June, and broke through 3 percent.
San Francisco Fed President Mary Daly said in an interview on LinkedIn that the central bank is “far from done” in its fight against inflation, which remains at a 40-year high.
Her comments come after last week’s Fed meeting, where Chair Jay Powell suggested it might be appropriate to slow the pace of rate hikes, prompting a recovery rally in markets.
In a separate interview on Tuesday, Chicago Fed President Charles Evans said he thought a 0.5 percentage point hike at the next September meeting was appropriate. However, he left the door open for a larger 0.75 percentage point gain, which he says “may be okay too.”
Also on Tuesday, Cleveland Fed President Loretta Mester, in an interview with The Washington Post, said she expects below-trend economic growth this year, which she says is necessary to curb inflation. She doesn’t believe the US is in a recession given the continued strength of the job market. Mester is known for being one of the more restrictive members of the Federal Open Market Committee.
Subadra Rajappa, head of US interest rate strategy at Société Générale, said Daly’s comments “triggered” the sell-off in the US Treasury market, where yields move inversely with prices. “Hard to know. . . if the market just overreacts,” added Rajappa.
Jefferies money market economist Tom Simons said Evans “tends to be very dovish, so that hawkish note is important.”
After the FOMC meeting in July, investors began to price in a series of smaller rate hikes later this year as there were signs that the Fed’s aggressive monetary tightening had started to cool US economic growth.
But comments from Daly, Evans and Mester moved futures markets, with expectations for where the Fed’s interest rate will stand in December rising to 3.39 percent on Tuesday from 3.27 percent on Monday.
The Fed’s comments come after the Commerce Department reported last week that the US economy had contracted for a second straight quarter, fulfilling one of the usual criteria for a recession. It shrank 0.9 percent on an annualized basis in the second quarter after contracting 1.6 percent in the first three months of 2022.
Investors also warned that Treasury market liquidity — the ease with which traders can buy and sell — is poor as many market participants are on vacation this month. A deterioration in liquidity can lead to large fluctuations in the price of securities.
Elsewhere, US stocks fell on Tuesday as Nancy Pelosi’s arrival in Taiwan fueled tensions between the US and China.
Wall Street’s S&P 500 stock index ended the day 0.7 percent lower, while the tech-heavy Nasdaq Composite was down 0.2 percent. Europe’s Stoxx 600 fell 0.3 percent, Japan’s Nikkei 1.4 percent, Hong Kong’s Hang Seng slipped 2.4 percent and the CSI 300 index of Chinese mainland-listed companies fell by 1.9 percent.
China said it would step up its military activities around Taiwan after the House Speaker became the top US official to visit the territory in decades.
Several Chinese warplanes flew near the median line dividing the Taiwan Strait as Russia accused the US of “provoking” Beijing.
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