Powell Strikes a Hawkish Pose! Bond market rate cut dreams shattered, traders urgently reshuffling positions.

Federal Reserve Chairman Powell's latest remarks have completely dampened the enthusiasm for interest rate cuts among bond traders. As the central bank clearly stated that it is not in a hurry to start a loose monetary policy cycle, investors are reevaluating the prospects for interest rate policy. After Powell reiterated the central bank's cautious stance last week, traders quickly adjusted their positions, lowering their expectations for interest rate cuts in 2025 to less than 75 basis points and pushing back the timing of the first rate cut to July. Whether this expectation can be sustained will depend on the future trends of the U.S. economy and inflation over the next few weeks. Details of the U.S.-China trade negotiations over the weekend and the CPI data to be released on Tuesday could trigger a market reversal. Powell warned that while policymakers seek to clarify the impact of tariff policies, President Trump's significant imposition of tariffs is simultaneously raising inflation and unemployment risks. "The bond market is accepting the fact that inflation will be higher than initially expected, which is a complex factor for investors who believe that the Fed will intervene and cut rates," said Greg Peters, Co-Chief Investment Officer of Fixed Income at PGIM, which manages over $850 billion in assets. There is a surge of hedging positions in the options market, betting that the Fed may remain on hold this year, with some positions even starting to anticipate that there will be no rate cuts throughout 2025. This contrasts with the latest non-farm data demonstrating the resilience of April employment before the market expected a rate cut next month. Meanwhile, Wall Street institutions have forecasted interest rate cuts this year ranging from 0 to 125 basis points, highlighting the uncertainty in the policy path. Several top investment bank economists expect either two or three rate cuts this year, starting in July or September. Sonal Desai, Chief Investment Officer of Fixed Income at Franklin Templeton Investments, stated, "The market is clearly overpricing rate cuts. Unless there is an economic recession, the Fed will cut rates by at most 25 basis points." She added that due to the market waiting for clearer trade policy information, U.S. Treasury yields are in a range-bound state, "I think we will not get clear trade policy information for quite some time." The yield on the two-year U.S. Treasury bond, which is more sensitive to monetary policy, has rebounded by 33 basis points from this month's low of 3.55%. As the U.S. and UK reached a trade agreement to boost risk appetite, and with Trump suggesting that if negotiations progress smoothly, tariffs on China may be reduced, yields continued to climb before last weekend. Despite surveys showing that tariff announcements have led to short-term expectations of increased inflation, traders and policymakers are pleased with the stable long-term inflation expectations. The latest survey by the New York Fed shows that one-year inflation expectations have risen to a new high since 2023, while the three-year indicator has reached the highest level since 2022. Market data shows that the market expects a 0.3% increase in CPI on a month-on-month basis in April. John Madziyire, Senior Portfolio Manager at Vanguard Group, said, "Currently, the most frustrating thing is that the employment and inflation data we receive are actually lagging." He added that the impact of tariffs may not be seen until July data. His company tends to hold U.S. Treasury bonds with maturities of five to seven years, "because it is clear that the Fed will not proactively cut rates." Michael Krautzberger, Chief Investment Officer of Global Fixed Income at Allianz Global Investors, believes that as long as it is confirmed that price increases are mainly due to tariffs, the Fed will eventually prioritize supporting the labor market. However, he warned that although the spike in inflation may be temporary, the central bank still needs to be vigilant about the lasting effects it may have on employment and growth. David Rogal, Portfolio Manager of Fundamental Fixed Income at BlackRock, interpreted, "Powell clearly stated that taking preemptive action is difficult, I think this is the main lesson from this specific combination of tariff policies and their potential impact on inflation and growth, which makes the Fed need more information." Rogal added, "If the unemployment rate rises significantly and inflation remains above target levels, the market's view is that the Fed will prioritize stabilizing U.S. economic growth rather than controlling inflation."