Will The Two Year Treasury Yield 2.75% By December 2018?

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By: Kent Engelke | Capitol Securities

The S & P is stuck in one of the tightest trading ranges in history as all attention is now on the endless commentary on reducing the Fed’s balance sheet. Oil is almost at $51 barrel, the highest level in about five months as OPEC is in 116% of compliance of production cuts. Inventories are declining faster than expected as demand is accelerating because of greater than anticipated global growth.

Speaking of the Fed, the Committee’s forecast calls for inflation to remain under 2% for the next 12 months. I ask if oil rises to $55-$60 barrel, will the Fed maintain this forecast? The FOMC intends to increase rates one more time in 2017 and three times in 2018.

If the Committee takes this path, the overnight rate will be yielding more than the yield on today’s 10-year Treasury and close to the current 30-year Treasury yield.

The FOMC also announced its intentions to begin reducing the size of its balance sheet next month in a gradual but consistent manner. What will QT be met?

As noted many times, the consistency from 2010-2015 that was projected for Fed policy did not unfold. In January, I opined about the odds of expected Fed policy again not materializing, defined this time as greater than expected rates because of stronger than anticipated growth.

Yesterday, it was reiterated for the first time since 2007 that all 45 OECD countries — the 45 largest countries in the world — are expecting their economies to expand in 2017, an expansion lasting into 2018. This is a rarity. Such contiguous expansions last occurred in 2007. Before that was in the late 1980s and before that was 1973.

Equities were mixed on the news. Treasuries were essentially unchanged.

Last night the foreign markets were mixed. London was flat, Paris was up 0.51% and Frankfurt was up 0.33%. China was down 0.24%, Japan was up 0.18% and Hang Sang was down 0.16%.

The Dow should open nervously lower as many are questioning the valuations of the market leaders in a potentially higher rate environment and the impact of QT. The 10-year is off 2/32 to yield 2.28%.

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