Yield curve steepens; Fed chief remarks boost rate cut bets

NEW YORK: The US Treasury yield curve steepened on Wednesday after Federal Reserve Chair Jerome Powell increased expectations that the US central bank may cut rates more sharply than expected in July.

Powell's prepared remarks to a congressional committee were published Wednesday morning. The chance of a 50 basis point cut rose to 21.4 percent from 3.3 percent on Tuesday, according to CME Group's FedWatch tool, while the chance of a 25-point cut in July was 78.6%, down from Tuesday.

The two-year Treasury yield, a proxy for market sentiment about interest rate policy, was last 5.5 basis points lower at 1.852%. Yields on short-dated notes fell, while yields on longer maturities rose, steepening the yield curve and ending a multi-day flattening trend.

Powell's remarks said the Fed stands ready to "act as appropriate" to sustain a decade-long economic expansion. He contrasted the "baseline outlook" of continued US growth against a considerable set of risks including persistently weak inflation, slower growth in other major economies and a downturn in business investment driven by uncertainty over the Trump administration's trade war with China.

At their June meeting, Fed officials signaled that those risks could warrant a cut in rates, which has led the market to fully price in a 25-basis-point rate cut by the end of the month despite strong payrolls data.

"The market is focused on the part of Powell's testimony where he says 'uncertainties continue.' And that led the market to think that uncertainty alone, rather than the incoming data, is enough to get them to move, likely 25 basis points, at the end of this month," said Michael Pond, head of global inflation-linked research at Barclays in New York.

The spread between two- and 10-year yields was last up to 20.2 basis points, its highest in a week. It hit a month low of 14.2 basis points on Tuesday as strong June jobs data released July 5 tempered rate cut expectations.

"If the economy is deteriorating and the Fed is cutting, all they're doing is offsetting weaker growth. But if growth is fine and they're cutting, then that leads the market to think this is much more of an insurance cut, which could boost risk assets and that's in part why we're seeing a bounce in breakeven inflation rates."

Later on Wednesday, minutes from the June meeting of the Federal Open Markets Committee meeting will be released. Also on Wednesday, the Treasury Department will auction off $24 billion of new 10-year notes.