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Friday, August 21, 2015 2:04 AM

Yield Curve Flattens in Recessionary Manner; Rate Hike Odds Shift to December

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Rate Hike Odds Shift to December

The Fed has been trying for months to convince the markets that rate hikes are coming in September. On Thursday the market took another look and came around to my point of view "I'll believe it when I see it".

CME FedWatch 2015-08-18

CME FedWatch 2015-08-20

Rate Hike Odds

The CME concludes there is a 23.57% chance of a hike. This is bad math because the CME ignores ranges.

If the Fed comes flat out and sets a target rate of precisely 0.25% that is a hike from here.

The current Fed stance is 0.00% to 0.25% and the actual rate has been about 0.14%. Thus 0.25% would be a hike of roughly 1/8 point (0.125 percentage points).

That said, it is certainly debatable if we see even that much of a hike. A look ahead at action in the CME Fed Fund Futures shows why.

Fed Fund Futures

To calculate the expected interest rates simply subtract the numbers in the first column from 1.00. In December, the expected average rate for the month is 0.28%. Simply put, the market is not expecting much more than an eight point hike all the way to December.

One Baby Hike Priced Out

Two days ago, in Plotting the Fed's Baby Step 1/8 Point Hikes; Yellen vs. Greenspan "Measured Pace", the December Fed Funds future was at 99.675, essentially implying an eight of a point hike in September and another in December.

On Thursday, the market just priced out one of those hikes.

Yield Curve Flattens

Curve Watcher's Anonymous is taking special note of the yield curve. Here is the chart as of the market close on Thursday.

click on chart for sharper image


  • 30-Year Treasury Yield: Red
  • 10-Year Treasury Yield: Orange
  •   5-Year Treasury Yield: Blue
  •   3-Year Treasury Yield: Green
  •   1-Year Treasury Yield: Purple

Synopsis Since January 2014

  • The short end of the curve (2- and 3-Year) acts as if hikes are coming.
  • The middle of the curve (5-year) seems ambivalent.
  • The long end of the curve (10- and 30-year) acts as if rate hikes are not coming or alternatively a recession approaches.  

Will the Fed disappoint the market by hiking?

I doubt it, but the odds can and will change between now and the next FOMC meeting on September 16-17.

Mike "Mish" Shedlock

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