By: Russ Kamp, Managing Director, Ryan ALM, Inc.

As I posted on December 19, 2023, I believe that the investing community has gotten too far ahead of the Fed with regard to potential interest rate policy changes in 2024. The move down in Treasury yields of more than 100 bps across the curve has been incredible. Despite this rapid repricing, the current Fed Fund Futures are anticipating 6 rate cuts in 2024. Given the strength of the US economy, labor force, and significant deficit spending, how realistic is that expectation? Furthermore, given that 2024 is a presidential election year, will the Fed act aggressively leading up to November?

If history is our guide, it is not likely that we will see the Fed insert themselves into the campaign. The Fed has set the explicit Fed Funds rate since 1994. How many times in those nearly 30 years have they changed rates during a presidential election year? The answer is only 3 times – 1996, 2008, and 2020. In 1996, they cut one time by 25 bps in January and were finished for the year. In 2008, they drove rates to zero in reaction to the Global Financial Crisis, and in 2020 they reduced rates from 4% to zero as the impact of Covid-19 and the pandemic took hold.

Based on this history, it will take a nearly unprecedented event to see the Fed act to the extent that is currently priced into the market, especially given the current expectation of a “soft” landing. Furthermore, it has been an extremely rare event to have the Fed cut US interest rates when the labor market has been this strong and unemployment <4% (currently 3.7%). Yet, market participants continue to drive Treasury rates lower as witnessed yesterday, when the yield on the 10-year note fell another 11 bps.

According to Jim Bianco (and shared by Steve DeVito, Ryan ALM’s Head Trader), a move of that magnitude is incredibly rare. Here are the observations during the last 62 years:

December 29, 2010 = -0.13% to 3.3489%

December 28, 2007 = -0.12% to 4.0732%

December 27, 2001 = -0.13% to 5.0650%

December 30, 1991 = -0.11% to 6.7160%

December 31, 1981 = -0.19% to 13.9820%

December 26, 1980 = -0.17% to 12.2520%

The yield on the 10-year Treasury note sits at 3.82% this morning, which is down 117 bps since late October. With Core inflation remaining at 4% and proving to be quite sticky, “investors” are accepting a real yield that is negative when compared to core inflation. As Ron Ryan pointed out recently in his blog post, the 10-year note has provided investors with a real yield of between 2% and 3% dating back to at least 1953. Given the Fed’s target of 2% core PCE would suggest nominal 10-year Treasury rates of 4.0% to 5.0%. Investors hoping to get a return greater than the current yield may be in for quite the surprise.