Bond yields always fall before Federal Reserve pivots to cut interest rates, research says

By Joy Wiltermuth

10-year Treasury yields have fallen in the months ahead of each Fed pivot to rate cuts since the 1970s, says Ned Davis Research.

While much has changed since Richard Nixon occupied the White House, U.S. bonds still react in familiar ways from 50 years ago.

Take the 10-year Treasury yield BX:TMUBMUSD10Y, which has fallen in the months ahead of each Federal Reserve pivot to interest rate cuts since the 1970s, according to Joseph Kalish, chief global macro strategist at Ned Davis Research.

Kalish tracked the path of the benchmark rate around past easing cycles. In the graph below, the blue line represents the average path of the 10-year rate in the year before, and in the 12-months after, each Fed pivot. The move lower tends to intensify three months ahead of each initial cut.

The 10-year Treasury yield is used to finance much of the U.S. economy, with higher rates often translating to tighter financial conditions and slower growth.

The 10-year rate was about 3 basis points lower on Tuesday at about 4.2%, and is continuing to pull back from a cycle peak of about 5% in October, according to FactSet data.

The Fed isn't expected to change its short-term policy rate on Wednesday from a 22-year high in the 5.25% to 5.5% range, but the central bank is due to release a revised "dot plot" of the potential future path of interest rates.

Revisions to the Fed's rate outlook in September were pegged as a catalyst for a sharp selloff that hits stocks and bonds in October. But the Dow Jones Industrial Average DJIA, S&P 500 index SPX and Nasdaq Composite COMP have set a string of new closing highs for the year in recent sessions, riding optimism about coming rate cuts in 2024.

Tumbling Treasury yields also have been tied to a sharp easing of financial conditions since October.

Year Ahead: Investors kissed the era of cheap money goodbye. Now what?

"We expect the dots to show three rate cuts from the current level to 4.50% to 4.75%, taking it back to June's median level, pushing back against market expectations of deeper cuts," Kalish wrote in a client note Tuesday. "We also want to see if there is any consensus building for 2025, as the dots were all over the place."

Tiffany Wilding, an economist at bond giant Pimco, said that wage pressures likely will remain a focus at the Fed as it works to get inflation down to a 2% annual rate, "reaffirming our view that despite the significant progress on inflation, the labor market still needs to cool for the Fed to ultimately be successful in returning inflation to 2%," she wrote in a client note Tuesday.

With that backdrop, Fed Chairman Jerome Powell is expected to be peppered with questions about the potential path for rates in the year ahead during a Wednesday afternoon news briefing.

Read: Fed will try to 'Keep calm and carry on' amidst talk of steep rate cuts and recession

-Joy Wiltermuth

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12-12-23 1459ET

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