FOMC Preview: dot plot and quantitative tightening in focus

By Althea Spinozzi, Head of Fixed Income Strategy at Saxo

  • The Federal Reserve is expected to maintain interest rates within the range of 5.25% to 5.5%. A decision to initiate tapering of Quantitative Tightening is imperative and may be made as early as this month, although it is more likely to occur in May.
  • As inflation proves persistent, markets will focus on the dot plot, likely to show only two rate cuts for 2024 versus the three cuts projected in December.
  • The Summary of Economic Projections (SEP) may reveal higher growth and inflation forecasts for 2024, while we expect 2025-26 to remain unchanged from December's projections.
  • US Treasury yields are likely to adjust higher across tenors, with 2-year yields testing resistance at 4.75% and 10-year yields breaking above 4.35% for the first time since November last year.

Recent hot inflation data has prompted investors to question whether inflation is truly under control. Both CPI and PPI indicators show signs of stabilizing around 3%.

There's the risk that if the SEP economic projections and dot plot suggest the Federal Reserve is overly eager to implement rate cuts, bond vigilantes could emerge. Bond vigilantes are simply bond investors demanding a higher term premium as the risk of a potential second wave of inflation looms.

The term premium surged to 40 basis points in November and turned negative in December. However, if the Fed appears too complacent about inflation, the term premium may revert to positive territory, exerting pressure on the longer end of the yield curve.

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Althea Spinozzi

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