At the long end, the bond market is nervous.
By Wolf Richter for WOLF STREET.
The 6-month Treasury yield, which is a good indication of rate hikes and rate cuts by the Fed within 2-3 months, is still glued to the underside of the Effective Federal Funds Rate (EFFR), which the Fed targets with its policy interest rates, and is thereby not yet predicting rate cuts within its vision of 2-3 months.
Last year, on June 26, the 6-month Treasury yield (then 5.33%, matching the EFFR) started skidding in anticipation of the 50-basis point rate cut that the Fed announced on September 18. By July 25, so exactly a year ago, it had dropped by 18 basis points to 5.15%. By August 28, it had dropped by 50 basis points to 4.83%, having fully priced in the 50-basis-point rate cut.
Today, July 25, the 6-month yield is still glued to the underside of the EFFR, and so it has still not begun to price in a rate cut at the September meeting, despite the public spectacle of Trump keelhauling Powell on a daily basis to get the Fed to cut its policy rates.
This 6-month Treasury yield is a summary depiction of the short end of the bond market where traders and algos look at millions of data points, and at everything the Fed says and does not say, to take bets on what will happen with interest rates over the next few months. And it still says, nothing will happen.
At the long end, the bond market is nervous.
The 30-year Treasury yield spent all week in the 4.90% to 4.96% range. On Friday, it ended at 4.92%, 59 basis points above the EFFR. Last week, it was at 5.0% for four days. So far in July, it has risen by 14 basis points.
Since the Fed cut by 100 basis points starting in September (dotted blue line), the 30-year yield (red line) has risen by 99 basis points! That was a massive move by the bond market against the Fed. And it has taught the Fed a lesson about spooking the bond market. It has since then switched to wait-and-see.
In this inflationary environment, the secret question is: How many rate cuts would it take to spook the bond market into pushing the 30-year yield to 6%?
The government has been trying actively to push down long-term yields, or at least keep them from rising further. It said that it would only slowly replenish its checking account, the Treasury General Account – which had been partially drained during the debt-ceiling period – by increasing the issuance of short-term Treasury bills, and taking it easy with the issuance of long-term notes and bonds.
Since mid-2024, the government has also been engaging in buybacks, where it issues new debt and uses the proceeds to buy back Treasury securities that had been issued some time ago. Some of the buybacks of long-dated securities – such as 30-year bonds issued in 2020 through mid-2021 with coupon interest below 2% – occur at massive discounts, whereby investors lock in their losses and the government reduces its outstanding debt. This is another effort, initially engineered by the Yellen-Treasury and continued by the Bessent-Treasury, to push down long-term yields.
The 10-year yield ended Friday at 4.39%, just above the EFFR. Despite some ups and downs, it hasn’t gone anywhere over the past five months.
The bond market is nervous about inflation. Inflation, enemy #1 of holders of long-term Treasury bonds, has been accelerating, driven by inflation in services. And the bond market is nervous about a lackadaisical Fed in light of this or potential future inflation.
And it’s nervous about the swelling Mississippi River of new Treasury debt flowing toward the bond market that it has to absorb, possibly with higher yields to draw in more buyers. Higher yields mean lower bond prices; that’s attractive for future bond buyers, and that’s what it takes to pull more buyers into the market to absorb the Mississippi River of new debt. And it means more bloodletting for existing bondholders.
But short-term yields up to six months haven’t budged much and remain glued to the EFFR of 4.33% as rate cuts are still on ice.
Expectations of rate cuts further down the road have pushed down yields over six months and into the five-year range.
The yield curve chart below shows the yield curve of Treasury yields across the maturity spectrum, from 1 month to 30 years, on three key dates:
- Red: Friday, July 25, 2025.
- Gold: January 10, 2025, just before the Fed officially pivoted to wait-and-see.
- Blue: September 16, 2024, just before the Fed’s rate cuts started.
The nervousness at the long end, rate cuts on ice at the short end, and rate-cut expectations for the next couple of years caused the yield curve to sag in the middle.
“Real” mortgage rates are back to pre-QE normal.
Mortgage rates of government-backed 30-year fixed mortgages run roughly in parallel with the 10-year Treasury yield, but are higher, and that spread varies.
In the latest reporting week, the average 30-year fixed mortgage rate ticked down to 6.74%. It has been in that range near 7% all year.
The super-low mortgage rates during the Fed’s mega-QE – when it bought trillions of dollars of MBS – were an anomaly of history that has caused the biggest explosion of home prices ever, along with raging inflation, into mid-2022. What’s left over now is a massive hangover, huge housing debt, and a frozen housing market.
“Real” mortgage rates – mortgage rates adjusted for inflation – have been back in the pre-QE normal range since the second half of 2023: The average 30-year fixed mortgage rate minus CPI inflation was 4.15% in June (average mortgage rate for June of 6.82% minus CPI for June of 2.67%).
The home-price explosion – home prices spiked by 50% and more in a couple of years – occurred from mid-2020 through mid-2022, driven by deeply negative “real” mortgage rates, when raging inflation far outran the Fed-repressed 3% mortgage rates. Borrowing at a 30-year-fixed rate of 3% while inflation was far higher was better than free money, and people went nuts because price suddenly didn’t matter anymore because money was better than free. This episode has caused this Fed to go down in WOLF STREET history as the “the most reckless Fed ever.”
Since then, the Fed has backed out of this recklessness, and “real” mortgage rates are back to normal, but home prices are way too high, and the housing market is suffering from a massive hangover.
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Just how high will long term US Treasury yields rise in the months ahead?
Likely to go to 6. The probability that debt is in service mode is high. Debt to gdp 125%. If rates are dropped, it won’t help mortgage rates, or the 30.
Great piece
I found a bond that I had never heard of before. It is a AA+ government backed mortgage financing bond. It is a 20 year bond paying 6.05%. The catch is that it is callable. It will certainly get called if we ever reach the point where the fed is satisfied with the level of inflation. Until then, I don’t mind getting over 6%.
So it’s essentially a Fannie Mae bond?
My memory was bad, it is only paying 6.02%
FEDERAL HOME LOAN BA SER BQ-2045 6.02000% Jul-07-2045
Most government “agency” bonds are callable, and they do get called.
The Fed, which will only act aggressively in abnormal, drastic conditions in the North American home market, where the world economy takes its lead for future conditions, is an institution of unhelpfully conservative bent. Its policies affect other world banks, not only in the Americas, but also across the developed First World. In acting conservatively, the Fed is lowering the bar on a range of future actions, hindering the fight against inflation and ignoring creative solutions that may present themselves. The Fed needs less bureaucratic thinking and more out-of-the-box thinking.
The LAST thing anyone needs is for the Fed to think out of the box. QE was a result of out-of-the-box thinking, the aftermath of which has turned into a nightmare. The Fed needs to stick to rate hikes and rate cuts and providing liquidity to the banking system when needed via repos and the discount window, and leave everything else alone.
“We will be data dependent” J Powell
“We will see through the data when appropriate” J Powell
Doublespeak typical of an” operation” hiding in plain sight
How is it that the Constitution gives Congress the power to create money (mint), yet the Federal Reserve has that power? At least Congress answers to voters.
Hear, Hear !!
I initially read “the most reckless Fed ever” as “the most feckless Fed ever”.
When Trump talks about lowering interest rates, he should tell us what kind of interest rates he is talking about. The Fed can only lower short term rates, which can drive long term rates higher, as we are seeing now. Long term rates are determined by the market. Right now, it is not possible to lower all interest rates (short and long) at the same time. If Trump really wants to lower long term rates, he should be jawboning Powell to raise the Fed Funds Rate.
Indeed.
Trump is wrong in this matter. He has an inherent hate of the Fed as it put him out of business in 1981. He hates interest rates as all do in the real estate business.
If he inserts a “dove” and we get rate cuts with the inflation rate STILL above the false target of 2% and stocks, Cryptos, Gold at all time highs, the long end will spank him.
Replacing JPow won’t mean rates drop. FOMC still has to vote unless Trump fires half the voting members and replaced them with loyalists. If that happens we have a cataclysmic economic future that will have severe global consequences. I really doubt this will happen.
I’m also wondering home much of the housing slump is from people waiting out the market. Literally everyday I hear from people saying the rates are gonna fall and they are going to buy. I never respond but always think, “Just how much time do you have?”
and tariffs WILL PROVE to raise prices, but will they call it “inflation”?
“The Fed can only lower short-term rates, which can drive long-term rates higher, as we are seeing now. ”
If the Fed chose to replace maturing short-term debt with 30-year treasuries, wouldn’t it affect long-term rates?
I watched an interesting interview by the Carlyle economist yesterday .
He stated that due to the massive A.I. capital spending programs by the dominant Mag 7 companies, they are no longer huge free cash flow creating companies.
As partially a result of that phenomenon as well as our enormous budget deficits, the projected government deficits demand on the private sector savings is expected to be 40%, up from 20% roughly a decade before .
Back in the bad old Bond Bear market years of the late 70s, chatter about the %of private savings needed to fund the government was spoken of widely.
I think this new development of the Mag 7 losing their free cash flow is another reason for the Bond Bear market to continue.
I actually agreed with some of the things the current president has done.
Trying to force down short term rates is NOT one of them. In this case, the Fed is right.
Regarding residential real estate (and I am a long time professional REALTOR), ‘timing the market’ is folly. One cannot buy time. Reasonable and smart people learn one thing about life– move on. Fine— sit in your home with your 3-4% mortgage and ‘wait it out’. I’ll see you in Heaven and your kids will sell the home in a nano-second.
Fannie Mae stock was under a buck for many years and now it’s almost $9 a share.
What’s the reason for this, Wolf?