What are yields doing?

The yield on the 10-year Treasury note
TMUBMUSD10Y,
1.545%
fell 2.7 basis points to 1.546%, compared with 1.573% at 3 p.m. Eastern on Monday. It’s the biggest one-day decline for the rate in almost a week, based on 3 p.m. levels, according to Dow Jones Market Data.

The 2-year Treasury yield
TMUBMUSD02Y,
0.446%
fell 5.9 basis points to 0.454%, versus 0.513% on Monday afternoon, when it ended at its highest since March 18, 2020. It’s the lowest level for the yield since Oct. 26, and the biggest one-day decline since March 23, 2020.

The 30-year Treasury bond
TMUBMUSD30Y,
1.960%
dropped 1 basis point to 1.958%, down from 1.968% on Monday. The yield has dropped six of the past eight trading days.

What’s driving the market?

Investors are focused on the Fed, which will deliver a policy statement Wednesday afternoon followed by Chairman Jerome Powell’s news conference. The Fed is fully expected to lay out plans to begin tapering its $120 billion in monthly bond purchases, a process that’s expected to end by mid-2022.

A key question is whether Powell will push back against a shift in market expectations that has seen traders price in the potential for multiple policy interest rate increases in 2022. In the past, he has emphasized that the end of Fed bond purchases wouldn’t necessarily lead to the immediate start of a series of rate increases.

Nonetheless, investors have started to price in a more aggressive stance by the Fed and other major central banks in response to inflation pressures that have been more persistent than expected. As short-end rates moved higher on those expectations, longer-term yields have languished on economic growth fears. That’s resulted in a significant flattening of the yield curve — a line plotting yields across all maturities — in the U.S. and other developed economies until this week.

The spread between 5-
TMUBMUSD05Y,
1.142%
and 30-year
TMUBMUSD30Y,
1.960%
Treasury yields started to steepen again on Monday and Tuesday, after flattening since last month, according to Tradeweb data. Similar spreads in the U.K., Germany, Italy, France, and Australia have also steepened since Monday.

On Tuesday, the Reserve Bank of Australia said it would stop using yield caps and signaled it would begin to raise rates earlier than previously anticipated. The RBA had previously said it wouldn’t be in a position to raise interest rates until 2024, at the earliest.

What are analysts saying?

“Global bond markets have moved dramatically in the last few weeks, prompted by inflation fears to price in multiple rate rises in 2022,” according to the economics team of Payden & Rygel, led by Jeffrey Cleveland. “Central bankers have done little to push back so far, themselves no doubt just as nervous about the inflation outlook as many investors.”

With so much policy tightening already priced into market expectations, “it’s hard to imagine what Fed Chair Powell could say to amplify the problem, so perhaps the risk lies in what he might not say,” said Tom Garretson, a senior portfolio strategist at RBC Wealth Management. “Having taken great pains to divorce the asset purchase tapering timeline from the rate hike timeline at previous meetings this year, failure to sufficiently do so at this meeting could be enough of a signal to markets that the winds at the Fed may be shifting into alignment with the market’s view of a truncated tightening cycle, with the potential for multiple rate hikes as early as next year,” Garretson wrote in an e-mail to MarketWatch. “That kind of confirmation would likely only embolden the market, and we would expect further yield curve flattening as a result,” Garretson said. “However, our base case remains that the Fed will seek to push back against current market expectations.”