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Long-term interest rates are in a holding pattern for now, as investors try to discern the path of the economy this year. Investors in 10-year Treasuries are in the same place as the Federal Reserve, which chose not to change short-term rates until it had a better sense of whether the economy is going to weaken significantly or not. At the Fed’s May 7 policy meeting, Chair Jerome Powell repeatedly emphasized how uncertain things are right now, and that he isn’t going to commit to a direction on short-term rates until the economic impact of recent tariffs becomes clearer.
If the choice comes down to fighting inflation versus supporting a slowing economy, the Fed will likely choose to prioritize the latter and leave the inflation fighting for another day. Investors are expecting the Fed to cut short-term rates three or four times this year, but they are likely to be disappointed, unless the economy falls into recession. The next policy meeting is June 18, but the Fed will cut rates only if there’s an obvious slowdown in incoming economic data. If not, then don’t be surprised if the Fed is extra cautious and waits until its July 30 meeting to make its first cut of the year.
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The Fed is allowing Treasury securities to mature and run off its balance sheet at $5 billion per month. But it is running off mortgage-backed securities at $35 billion per month. The central bank would like to get non-Treasuries out of its portfolio as much as possible, in order to avoid creating unintended influences on those asset markets over the long term. The disparate treatment of the Fed’s balance sheet may keep mortgage rates elevated a bit more than usual over the 10-year Treasury note’s yield.
Mortgage rates won’t be changing much for now. If the economy weakens, then they should ease a bit. Mortgage rates are still higher than normal relative to Treasuries, but whenever the Fed cuts short-term rates again, it will boost banks’ lending margins, which should eventually lower mortgage rates a bit, too.
Top-rated corporate bond yields have edged down in tandem with Treasury yields, but low-rated bond yields have jumped with the rise in recession fears. AAA-rated long-term corporate bonds are yielding 4.7%; BBB-rated bonds, 5.5%; and CCC-rated bonds have eased to 13.4% from their 15.2% peak in April, but they are still above their early March level of 12%.
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