With Fed tapering expected, investors eye rate hikes

The U.S. Federal Reserve Bank gears up to taper its huge asset purchases as investors are scanning the market before and after signals of how effectively the central bank can tighten the U. S. monetary policy to deal with stubbornly high inflation.

Fed policymakers are expected to give the green light to reducing the central bank’s huge bond purchases (of $120 billion a month) in a bid to steady the economy after the severe hit by the pandemic.

The move, which is anticipated to take off in mid-November or mid-December, has been widely telegraphed. Still, the Treasury market has churned over the past week as investors positioned for tighter policy.

Investors have sharply increased expectations that inflation would force the Fed to raise rates sooner and faster than projected. Short-term rates have risen and the yield curve flattened. read more

Wall Street banks, meanwhile, are intensifying preparations for tapering to ensure they are able to handle spikes in market volatility. There could still be more surprises.

Not tapering at this point could substantially steepen the U.S. Treasury yield curve, while a faster-than-expected tapering program would lead to a substantial flattening, according to Steve Bartolini, portfolio manager for U.S. core bond strategy at T. Rowe Price.

Investors are focused on rising inflation and look to the Fed meeting to see if Chair Jerome Powell’s stance that higher prices will moderate on their own over time may be wavering.

It is the labour, the inflation, it is also the consumer that Fed is mostly concerned about,so long-term bond yields may fall once the taper announcement is made as rising short-term borrowing costs act as a headwind to growth.

Powell, whose uncertain renomination as Fed chair has also played into market moves, puts rate hikes in a separate box from tapering, with higher interest rates dependent on a return to full employment and inflation reaching the Fed’s 2% goal, while moderately exceeding that level for some time.