Treasuries Gain as Bond Market Sees Fed Delaying Rate Increase

El-Erian: Next Week's Fed Decision Is a Close Call
  • Goldman Sachs says this week is too early for a rate boost
  • Fed trying to keep expectations `from moving well into 2016'

While economists are almost equally divided on whether Federal Reserve chair Janet Yellen will raise U.S. interest rates this week, the bond market suggests policy makers will wait.

The probability of a move at the Fed’s Sept. 16-17 meeting is about 49 percent, Mohamed A. El-Erian, the chief economic adviser at Allianz SE, wrote in a Bloomberg column last week. While the U.S. economy is improving, slowing growth elsewhere combined with rising financial-market volatility are reasons to hold off, he said. “It is that close.”

Futures contracts show the odds of an increase this month have dropped to 28 percent from 48 percent a month ago, according to data compiled by Bloomberg, amid signs of a slowdown in the Chinese economy and a global selloff in stock markets.

“They won’t go, but they will convey a hawkish message to keep the markets on cue and prevent pricing from moving well into 2016,” said Gennadiy Goldberg, a New York-based U.S. rates strategist with TD Securities. “The Fed will continue to string the market along and keep it primed for a rate hike. It will keep every meeting in play.” TD expects the Fed will raise rates in March.

‘Too Early’

Benchmark Treasury 10-year notes gained for a second day, as the yield fell one basis point, or 0.01 percentage point, to 2.18 percent as of 5 p.m. New York time, based on Bloomberg Bond Trader data. The 2 percent security due in August 2025 rose 1/32, or 31 cents per $1,000 face amount, to 98 3/8.

“Any September hike is going to be interpreted as hawkish,” said Shyam Rajan, head of U.S. rates strategy at Bank of America Corp. in New York, one of the 22 primary dealers that trade with the Fed. Bank of America expects the Fed will raise interest rates this week.

Dueling Fed expectations along with slowing growth in China and sent bond-market volatility in August to the highest level since February, based on Merrill Lynch’s MOVE Index. The Chicago Board Options Exchange’s Volatility Index, which is known as the VIX and measures expected stock-market swings, surged last month to the most since 2009.

This week “is too early for a rate hike,” Goldman Sachs & Co. economists including Jan Hatzius and Zach Pandl wrote in a note Sept. 11. “Although the growth data have been quite good and the labor market has improved further, both wage and price inflation have fallen short of expectations.” Goldman forecasts the Fed will lift interest rates in December.

The probabilities are about 41 percent for an increase at or before the Fed’s October meeting and 59 percent for December, according to futures data compiled by Bloomberg. The calculation is based on the assumption that the effective fed funds rate will average 0.375 percent after the first increase.

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