Bond Traders Think Everyone Else Is Too Optimistic About the Fed

The Fed is one of the more cautious examples of regulators you can find in the federal government. Every “we’re leaning toward lowering rates” that they say is followed by “on the other hand, things could go wrong.”

And people wonder why Treasury yields stay higher than they expect.

What’s happening with the Treasury 10-year yields — to mention one rate that has a big influence on CRE financing/? While not at the 5% level it hit last fall, they have been well over 4% for much of the time since.

As GlobeSt.com noted back in January, the 10-year has become the center point of a predictive tug-of-war. Some thought it would plunge down into the 3s. Others have said the current 4%-plus levels are overvalued. Still others think that too many are being optimistic about the future.

The situation has the Wall Street Journal wondering why Treasury yields are rising despite rate-cut expectations. Maybe the better question is why there are so many expectations of not only when rate cuts will happen, but when and how much.

Unfortunately, many economists and investors treat markets as simpler than they are. The Fed would like to reach the so-called neutral or natural rate of interest, called r-star by the cognoscenti. Taking inflation out of the equation, it’s supposed to be the short-term interest rate at which inflation is stable and there is full employment.

But as Brookings Institution points out, “it is highly uncertain what that so-called neutral rate actually is.” It seems to have been shifting over time. Is it too high right now? Too low? No one knows for sure, although the median forecasts of Fed officials are finally 2.6, the first time they’ve gone over 2.5 since mid-2019, as the Journal reported.

John Madziyire, head of Treasurys at Vanguard, told the Journal that they expected the 10-year yield to be between 4.5% on the top end and 3.5% on the bottom. Back to below 4% unless it’s above.

For CRE, knowing what was going to happen with the 10-year might give some insight into longer financing rates (versus shorter term, in which case SOFR is a bigger factor in pricing). Given the apparently uncertainly, maybe the best approach is to live for today. Look at the opportunities, see what available rates are, and then consider whether the fundamentals of a deal allow for something profitable going forward.