(Bloomberg) — U.S. Treasuries retreated from their session highs late Friday after a closely watched set of inflation data came in below expectations, prompting traders to improve the prospects for Federal Reserve interest rate cuts next year.
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The yield on the policy-sensitive two-year Treasury bond fell slightly to 4.31% late Friday afternoon, and after an initial drop to 4.25%. The 10-year reference rate fell 4 basis points to 4.51% in recent operations. The moves undid a sharp upward trend this week that had taken part of the yield curve to its steepest level since 2022. Treasuries maintained their early gains after a University of Michigan survey showed sentiment of the American consumer increased for the fifth month in December.
Earlier Friday data showed that in November the core personal consumption expenditures price index, the Federal Reserve’s preferred measure of underlying inflation, rose 0.1% from October and 2.8% from the year above, both levels slightly below consensus forecasts.
Swap traders are pricing in about 39 basis points from the Fed’s total cuts next year, implying less than two full quarter-point reductions. But many on Wall Street expect the central bank to cut more than that.
“We anticipate more cuts from the Federal Reserve next year,” Subadra Rajappa, head of U.S. rates strategy at Societe Generale, said on Bloomberg Television. He said the firm’s economists expect four quarter-point cuts from the Federal Reserve next year. “The way the economy is going, we should see a moderation in growth, we should see a moderation in employment, we should see a moderation in inflation,” he said.
This week’s pressure on long-term debt pushed 10-year Treasury yields above the two-year rate to their highest level since 2022.
The hike came after the Federal Reserve on Wednesday signaled a slower pace of rate cuts next year, given signs of persistent inflation. The median of Fed officials’ quarterly forecasts implied two quarter-point rate cuts in 2025, down from the four moves they projected in September.
“The Fed is trying to communicate a shift to the next phase of the easing cycle,” said Julian Potenza, portfolio manager at Fidelity Investments. “Overall, there is a fairly wide spread of potential policy outcomes next year, but for us, we think the base case is probably a continuation of a modest easing cycle.”