Powell's "hawkish" stance emerges! The dream of interest rate cuts in the bond market shatters, traders urgently adjust their positions

According to the Zhitong Finance APP, the latest statement from Federal Reserve Chairman Jerome Powell has completely dampened the enthusiasm of bond traders for interest rate cuts. As the central bank clearly indicates that it is not in a hurry to initiate a loosening cycle, investors are reassessing the outlook for interest rate policy.

Last week, after Powell reiterated that the central bank would maintain a wait-and-see stance, traders quickly adjusted their positions, lowering the expected interest rate cut in 2025 to less than 75 basis points and pushing back the timing of the first rate cut to July.

Whether this expectation can be maintained will depend on the trends in the U.S. economy and inflation in the coming weeks. Details of the recent U.S.-China trade negotiations over the weekend and the CPI data to be released on Tuesday could trigger a market shift again. Powell warned that as policymakers seek to clarify the impact of tariff policies, Trump's large-scale tariff increases are simultaneously raising both inflation and unemployment risks.

"The bond market is coming to terms with the fact that inflation will be higher than initially expected, which complicates the view that investors have that the Federal Reserve will intervene and cut rates," said Greg Peters, co-chief investment officer of fixed income at PGIM, which manages over $850 billion in assets.

The options market has seen a surge in hedging positions, betting that the Federal Reserve may remain on hold this year, with some positions even starting to expect no rate cuts throughout 2025. In contrast, before the latest non-farm data showed resilience in April employment, swap contracts indicated that the market expected a rate cut as early as next month.

Meanwhile, Wall Street institutions have varying predictions for the extent of rate cuts this year, ranging from 0 to 125 basis points, highlighting the uncertainty of the policy path. Several top investment bank economists expect either two or three rate cuts this year, starting in July or September.

Sonal Desai, chief investment officer of fixed income at Franklin Templeton, stated, "The market's pricing of rate cuts is clearly excessive. Unless there is an economic recession, the Federal Reserve will cut rates by at most 25 basis points." She added that due to the market waiting for clearer trade policies, U.S. Treasury yields are in a range-bound state, "I believe we will not receive clear trade policy information for quite some time."

The two-year U.S. Treasury yield, which is more sensitive to monetary policy, has rebounded 33 basis points from a low of 3.55% earlier this month. With the U.S. and U.K. reaching a trade agreement boosting risk appetite, coupled with Trump's indication that he might lower tariffs on China if negotiations progress smoothly, yields further climbed before the weekend.

Although surveys show that tariff announcements have triggered a spike in short-term inflation expectations, traders and policymakers are comforted by stable long-term inflation expectations. The latest survey from the New York Fed shows that one-year inflation expectations have risen to a new high since 2023, while the three-year indicator has reached its highest level since 2022.

Compiled data indicates that the market expects the April CPI to rebound by 0.3% month-on-month.

John Madziyire, senior portfolio manager at Vanguard, stated, "What is most frustrating right now is that the employment and inflation data we are receiving is actually lagging." He added that it may take until July data to reflect the impact of tariffs The company he works for tends to hold U.S. Treasury bonds with maturities of five to seven years, "because it is clear that the Federal Reserve will not actively cut interest rates."

Michael Krautzberger, Chief Investment Officer of Global Fixed Income at Allianz Global Investors, believes that as long as it is confirmed that rising prices are mainly due to tariff factors, the Federal Reserve will ultimately prioritize supporting the labor market. However, he warns that although the surge in inflation may be temporary, central banks still need to be vigilant about its potential lasting impact on employment and growth.

David Rogal, a fundamental fixed income portfolio manager at BlackRock, interprets: "Powell has made it clear that taking preemptive action is difficult, and I think this is the main insight from the specific policy mix of tariffs and its potential impact on inflation and growth, which makes the Federal Reserve need more information."

Rogal added: "If the unemployment rate rises significantly while inflation remains above target levels, the market's view is that the Federal Reserve will prioritize stabilizing U.S. economic growth over controlling inflation."