Traders trim Fed-cut bets as wholesale inflation clouds outlook
Yields on short-term Treasuries, which tend to track expectations for monetary policy, rose sharply on Thursday (Aug 14), with the two-year note's climbing six basis points to 3.73 per cent. The benchmark 10-year yield jumped, and the US dollar gained against a basket of peers.
The higher-than-expected increase in the producer price index (PPI), which suggests companies are passing along elevated import costs tied to tariffs, halted a Treasuries rally and surprised investors.
Traders had piled into bets on a September rate cut, with some wagering on a 50-basis-point move, after a largely benign report on consumer prices this week and comments from Treasury Secretary Scott Bessent in which he said policymakers could bring down borrowing costs as much as 1.5 percentage points.
'Today's PPI makes you take a step back and just re-assess,' said Priya Misra, a portfolio manager at JPMorgan Asset Management. 'We are in the midst of a stagflationary shock.'
Interest-rate swaps still show at least half a percentage point of rate reductions by the end of the year, but the odds of a September cut fell to around 85 per cent from more than 100 per cent before the day's developments.
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Producer prices increased 0.9 per cent in July, Thursday's report from the Bureau of Labor Statistics showed, more than four times as much as the median economist forecast. Within the report, services costs increased 1.1 per cent. It followed a largely benign reading on consumer prices released on Tuesday.
Fed officials, who last month left rates unchanged in a range of 4.25 to 4.5 per cent, have signalled they are weighing mixed signals from the economy ahead of their Sep 16 to 17 policy meeting. St Louis Fed president Alberto Musalem said on Thursday it was too early to decide whether he will support a cut.
Investors are now watching for clues from the Fed's annual gathering in Jackson Hole, Wyoming, where chair Jerome Powell is set to speak later this month.
US President Donald Trump has repeatedly criticised Powell for failing to bring down borrowing costs. Bessent on Thursday said that while he was not calling for the Fed to lower rates, economic models suggest there's room for rates to come down 150 basis points to a 'neutral' level at which policy is neither restraining nor stimulating the economy.
For investors, Tuesday's consumer price reading was enough to solidify wagers on a quarter-price reduction in September, with some jumping into bets on an even bigger move of 50 basis points.
Despite the reading on producer prices, they added to a position in the Secured Overnight Financing Rate (SOFR) on Thursday that would benefit from a move of more than 25 basis points.
'PPI is not going to change the overall narrative, but it does take off some of the 50-basis-point risk the marketplace had been thinking about,' said David Robin, an interest-rate strategist at TJM Institutional Services. BLOOMBERG
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