The Fed’s Mixed Messaging on the Yield Curve

Last week’s FOMC meeting showed that the Federal Reserve (Fed) intends to maintain rates at zero even when the economy overshoots traditional measures of full employment and price stability. But Fed Chair Jay Powell stopped short of pushing back on the bear steepening of the Treasury curve.

Powell is giving conflicting guidance to bond investors. Dovish forward guidance is bullish for the short end while the Fed’s efforts to lift inflation expectations have been bearish for the long end. The belly of the curve is caught in the middle.

The question investors face is whether the selloff has more room to run. Our analysis suggests it has largely run its course. The market is now pricing in a neutral rate of 2.35 percent, nearly in line with the Fed’s optimistic long run dots. The chart below shows that the bond market has had difficulty sustaining rates at or near the Fed’s neutral rate projection, and we see no reason to expect a different result this time. Nor do we expect the Fed to revise up its neutral rate estimate. 

While the Fed has succeeded in lifting growth and inflation expectations, it now has a different problem: the market is pricing in premature rate hikes, as the chart below shows. The upshot for bond investors is that the steeper yield curve now offers an attractive carry and rolldown profile. If the Fed is as patient as we expect it to be, total returns for core fixed income investors have the opportunity to be much better going forward than they have been in the recent past.

From the Office of the Global Chief Investment Officer, Scott Minerd
By the Guggenheim Investments Macroeconomic and Investment Research Group

• Brian Smedley, Senior Managing Director and Head of Macroeconomic and Investment Research
• Matt Bush, CFA, CBE, Director and Senior Economist, Macroeconomic and Investment Research

Important Notices and Disclosures

Investing involves risk, including the possible loss of principal. Investments in fixed-income instruments are subject to the possibility that interest rates could rise, causing their values to decline. High yield and unrated debt securities are at a greater risk of default than investment grade bonds and may be less liquid, which may increase volatility.

This material is distributed or presented for informational or educational purposes only and should not be considered a recommendation of any particular security, strategy or investment product, or as investing advice of any kind. This material is not provided in a fiduciary capacity, may not be relied upon for or in connection with the making of investment decisions, and does not constitute a solicitation of an offer to buy or sell securities. The content contained herein is not intended to be and should not be construed as legal or tax advice and/or a legal opinion. Always consult a financial, tax and/or legal professional regarding your specific situation.

This material contains opinions of the author or speaker, but not necessarily those of Guggenheim Partners or its subsidiaries. The opinions contained herein are subject to change without notice. Forward looking statements, estimates, and certain information contained herein are based upon proprietary and non-proprietary research and other sources. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. No part of this material may be reproduced or referred to in any form, without express written permission of Guggenheim Partners, LLC. There is neither representation nor warranty as to the current accuracy of, nor liability for, decisions based on such information. Past performance is not indicative of future results.

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