In anticipation of the Federal Reserve policy decision on Wednesday, TD Securities strategists are closely analyzing the potential consequences for Treasury yields and the U.S. dollar. According to strategists Oscar Munoz, Gennadiy Goldberg, and Mark McCormick, a continued higher-for-longer message on interest rates could lead to slight upward movements in the 10-year Treasury yield (BX:TMUBMUSD10Y) and an increase in the value of the U.S. dollar.

Under their base-case scenario, where the possibility of another rate increase in November or December remains open and Fed Chairman Jerome Powell indicates a cautious approach to policy easing next year, TD strategists are expecting a modest bump-up in the 10-year Treasury yield. Additionally, they anticipate an upward trend in the U.S. dollar.

Although the policy announcement on Wednesday is widely expected to result in a halt to rate hikes, its significance lies in the signals it will provide for the remainder of this year and 2024. This comes at a time when concerns about rising oil prices exacerbate worries about inflation. Market participants believe Powell’s statement on the duration of higher rates has the potential to dampen the ongoing stock-market rally in 2023. On the other hand, Joseph Davis, chief global economist and head of Vanguard’s investment strategy group, suggests that the Fed may need to raise rates one to three more times from the current range of 5.25%-5.5% and maintain these elevated levels until late 2024.

Read: Why the Fed’s response to this key question could spark a 5% stock-market pullback

Bond Market Anticipates Hawkish Shift from Federal Reserve

Analysts are expecting the Federal Reserve’s Committee to adopt a “higher for longer” outlook, while also introducing a touch of hawkishness with potential rate increases, according to TD Securities strategists Munoz, Goldberg, and McCormick. As a result, rates traders have already adjusted their pricing for 2024 cuts. The TD team has a 70% probability of their base-case view materializing, which they believe will lead to a modest 4-basis-point increase in the 10-year Treasury yield, a slightly more negative yield curve between the 2-year and 10-year rates, and a 0.1% uptick in the Bloomberg Dollar Spot Index compared to Tuesday’s levels.

The primary area of focus for investors has been the recent rise in long-term Treasury rates. There has been considerable repricing to account for the expectation of higher rates persisting over a longer period, causing long-end rates to climb in the past month. The market eagerly awaits to see whether this trend will continue, resulting in a steeper Treasury curve and reinforced expectations for a gentle economic slowdown.

In a more hawkish scenario, where Fed officials signal another rate hike in 2023, downplay concerns about cooling inflation, project fewer rate cuts in 2024, and Chairman Powell indicates the necessity for additional hikes, analysts from TD Securities anticipate further market impacts. Under this scenario, they predict an 8-basis-point increase in the 10-year rate, a deeper inversion of the 2-year and 10-year yield curve, and a substantial 0.25% surge in the Bloomberg gauge compared to early Tuesday’s levels.

At present, the 2-year and 10-year Treasury yields are on track to reach their highest closing levels in over a decade, currently trading at around 5.1% and 4.33%, respectively. The equity markets have responded by declining, with all three major U.S. stock indexes (DJIA, SPX, COMP) experiencing a drop, primarily led by a 0.8% decrease in the Dow industrials and the Nasdaq Composite.

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