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10-year Treasury yield hits 3% ahead of Fed meeting

Yahoo Finance's Brian Cheung discusses the 10-year Treasury yield hitting 3% ahead of the Fed’s FOMC meeting.

Video Transcript

BRIAN SOZZI: The 10-year Treasury yield hit 3% for the first time since 2018. This is the latest milestone in what is considered the worst bond rout in decades. The move comes as traders wait to hear the Fed's decision Wednesday on a possible 50 basis point interest rate hike. Yahoo Finance's Brian Cheung is here with some analysis on these market moves. And Brian, wow, these are very big moves ahead of the Fed meeting.

BRIAN CHEUNG: Very big moves. Haven't seen 3% on the 10-year yield since 2018. Now, of course, we've actually backed off a little bit from those highs. All of this drift coming as the Fed begins that two-day meeting down in Washington, where the expectation is that tomorrow, at 2:00 PM, they're going to announce a 50 basis point hike. That would be the first time the Fed has done, what I'm calling, that king-sized bump since 2000.

And that would be pretty remarkable. Because you think about all of the activity that we've seen the Fed do over the last few months, I would say that at the end of 2021, no one was saying that we'd be seeing these types of outsized moves in one go. Now, of course, as a proxy for longer-term interest rates, it makes sense that the 10-year, and also the 30-year, is going to make these moves ahead of this decision.

But again, interesting to see whether or not maybe the Fed hints at a larger hike in future meetings. It'd be interesting to see what we get from the Fed chairman when that press conference happens tomorrow at 2:30.

- Is 75 basis points off the table then? Because I mean, looking at the CME FedWatch Tool, this morning even, it put that 75 basis point rate hike at a 98.7% probability.

BRIAN CHEUNG: Yeah. Well, I mean, that tells you right there, probably unlikely the Fed's going to do anything more than 50, at least for tomorrow. But you look at the likes of Goldman Sachs saying they're going to be listening in for commentary about the Fed possibly signaling more hawkish moves in the June, July meetings. I mean, you have some shops, like Nomura, for example, calling for those types of 75 basis points moves. I think that's a little bit outside of the consensus that we're hearing so far.

But the point remains the same. The Fed's been saying, look, we're trying to take the punch bowl away from the party-- that's the terminology that we've heard in the past. If they do a 75 basis point move in June and July, that'd be the equivalent of not just taking the punch bowl away. It'd be like the cops showing up.

[LAUGHTER]

The whole thing's shut down, right. So I don't know if Jay Powell wants to do that, because, again, it's just-- the lid is already off on the 25 basis point standard moves that we've been seeing in previous hiking cycles. If you continue to move that Overton window meeting after meeting after meeting, that could introduce more volatility than we've already seen, which I think most traders, as we've been talking to over the last few weeks, have said, yeah, maybe we could do without some of this.

JULIE HYMAN: So if we're talking analogies, I don't know what the balance sheet is in this whole analogy.

BRIAN CHEUNG: I don't think there is one. Yeah.

JULIE HYMAN: But we are going to get potentially more detail on the tightening of the balance sheet as well, because that's something that's also going to be very important in terms of removing the stimulus.

BRIAN CHEUNG: Yeah, very in the weeds stuff here. But essentially, people will recall that the Federal Reserve was buying a massive amount of US Treasury's agency mortgage-backed securities during the pandemic. The idea was to reassure markets, hey, we got you, we're going to support you through this time. The Fed stopped those purchases in March. But the idea now is, well, how can they shrink the nearly $9 trillion balance sheet that they have now.

So they're likely going to kick off the process in the meeting announcement tomorrow, of beginning to shrink that balance sheet. The game plan would be something to around $95 billion per month. They're going to have to ramp that up over the first three months. But eventually, at some point, the Fed wants to get the balance sheet to a smaller level. We don't know what that level is going to be.

So I think that's the commentary that we're going to be looking for from the Fed chairman. Is it going to go back to the $4.5 trillion level that we saw prior to the pandemic? Probably not. But then what's the range, right? Where do you stop? And I think that's what we got a listen in for tomorrow.

BRIAN SOZZI: Brian, also interesting-- bank stocks are under pressure. And I think investors, it has been beaten into their heads that yields go up, this should be good for bank stocks. But we're not seeing that in the case. The KBW ETF bank index under pressure here. I would argue that these stocks are starting to price in a recession.

BRIAN CHEUNG: Yeah. Well, I mean, when you talk about the yield movements, that seems to be the big story that bank investors are probably looking at. But it's interesting. You always hear all the time-- bank analysts come on every quarter and say, higher interest rates should be good for banks. That gives them more wiggle room to price the way that they're setting up their loans. That should give them a little bit more profit, right.

Not necessarily the case in a rising rate environment, where they're doing that because recessionary risks are higher. So I think that's just one reminder, first of all, that net interest margin and higher interest rates doesn't always mean the biggest kind of windfall for banks in a given cycle. But I think we also have to remember that there's other types of technicalities in there as well. I'm not going to get into it.

But there's something that RBC has been flagging. Gerard Cassidy, who we've had on the show, he's been saying that there's an accounting issue called OCI. This is the way that accumulated other comprehensive income is accounted for on the balance sheet. There's some changes in the way that banks have to account for the types of securities portfolios that they have. Rising interest rates would hurt those types of portfolios.

So as the banks are doing a lot more investment, which they've been doing to counteract the impact of lower or flatter yield curve, that's actually going to hurt them a little bit more. So maybe I'll have to do a "Yahoo U" on that.

JULIE HYMAN: Is that the Alexandria Ocasio-Cortez--

BRIAN CHEUNG: I, you have to add that.

JULIE HYMAN: --indicator?

BRIAN CHEUNG: Yeah, yeah, no.

JULIE HYMAN: Yes. No, that's not what it is. I'm kidding.

- B. Cheung is, this morning, here with us. Brian Cheung, of course, going to be watching closely what Fed Chair Jerome Powell and the committee says and comes out with on the headline. Appreciate it this morning.