US rates: Weekly review

US Treasuries rallied sharply on Thursday following the September FOMC meeting after selling off earlier in the week on better-than-expected economic data; 10y yields ended Thursday at 2.2%, still roughly unchanged from the week, but the 5s30s Treasury curve steepened to 153bp, almost 10bp steeper over the week. 

The highlight of the week was the September FOMC meeting at which, the Fed refrained from raising rates. As a rationale, the statement noted the move lower in market measures of inflation compensation (TIPS breakevens) and the potential drag from global economic and financial developments on activity and inflation in the near term. The statement noted that the Fed is monitoring developments abroad and "it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term." The interest rate forecasts show a consensus for hiking once before the end of the year, followed by a gradual hiking cycle. 

The Fed made modest changes to the growth projections, which suggests that it does expect the tightening of financial conditions to be a drag on growth. With growth in the first half averaging 2.15%, the Fed does not expect any acceleration in H2 15, which is in sharp contrast with consensus forecast of 2.6%. Further, at 2.3% for 2016, the Fed is also more realistic, than the consensus forecast of 2.6-2.7%. In a similar vein, the Fed modestly lowered the core PCE inflation forecast for 2016 and 2017 but continues to expect a steady move toward the 2% target. On the labor market front, the Fed lowered the unemployment rate forecast but, the long-run projections were lowered as well. It still expects there to be some slack by the end of this year. Overall, the inflation forecasts are a little optimistic but there is some room for an upside surprise on the growth forecasts.