The US Treasury 3-month yield rose to 0.94% by late Thursday, the highest since September 2008. It reflects how the market views the Fed’s next action – to be announced after its meeting on June 14. The short-term Treasury market is attempting to read every quiver of the Fed’s lips, what Fed governors are saying on their speaking circuits, the minutes from prior meetings, and so on. And it sees a large probability of a rate hike on June 14
And the minutes from the last FOMC meeting show that unwinding QE and trimming down the Fed’s $4.5 trillion balance sheet is moving closer to reality. QE was designed to drive up asset prices and bring down long-term yields, including mortgage rates. Now the opposite is being planned.
The Fed would allow maturing bonds to roll off the balance sheet without replacement.So they have a plan. It will probably kick off later this year, but perhaps as soon as September.
The Fed is removing “accommodation,” as it calls this, across the spectrum: at the short end by raising the target for the federal funds rate, and at the long end by allowing QE to unwind. This includes mortgage-backed securities, which would remove some of the support under mortgage rates.
The bond market is going along with short maturities. Short-term yields, such as the three-month yield, have been rising in preparation for more rate hikes. But at the longer end, the bond market is going the opposite way. The 10-year yield and the 30-year yield have fallen. And stocks have hit new highs. Thus, markets are in fact loosening monetary conditions, rather than tightening them.
This has further flattened out the yield curve, with the 3-month yield rising from 0.55% on rate-hike day December 14, to 0.94% on May 25; and with the 30-year yield dropping from 3.18% to 2.91% over the same period.
As long as markets are not getting the message and as long as financial conditions in the markets are getting looser, instead of tighter, the Fed has all the more reasons to proceed. A tantrum by the stock and bond markets might stop the Fed in its tracks. But the opposite is happening.
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One of the commentators said:
"The ECB has already tapered its asset purchases by €20 billion a month this year. There will likely be another taper announcement this year, perhaps before the German elections."