TLDR
- Treasury yields hit a 2-month low with 10-year bonds falling to 4.33%
- Markets fully pricing in two quarter-point Fed rate cuts for 2025
- Service sector contracted for the first time in two years in February
- Trump’s tariff plans weighing on market risk appetite
- Fed’s balance sheet discussions ongoing with potential shift to shorter-term securities
The US bond market saw a major rally on February 25, 2025, pushing Treasury yields to their lowest levels of the year. The benchmark 10-year Treasury yield fell seven basis points to 4.33%, reaching its lowest point in over two months. This movement comes as traders increase their bets on interest rate cuts from the Federal Reserve in response to new economic data and policy concerns.
The drop in yields reflects growing market confidence that the US economy is weakening. Money markets are now fully pricing in two quarter-point interest rate reductions by the end of 2025, the first time in four weeks that markets have been this certain about rate cuts.
A key factor driving this market shift is recent economic data showing the US services sector contracted in February for the first time in two years. This contraction has raised concerns about the health of the US economy, which had previously shown strong performance compared to other major economies.
Adding to market concerns are President Donald Trump’s proposed tariff plans, which appear to be weighing on risk appetite among investors. Markets seem to be reacting to growing uncertainty around the Trump administration’s economic policies and how they might affect business conditions in the coming months.
“Red flags are emerging for the US economy,” said Elias Haddad, senior market strategist at Brown Brothers Harriman. “Another month or two of poor US economic data would deliver a blow to the US exceptionalism narrative.”
The short-term bond market is also reflecting these changing expectations. The yield on two-year Treasuries decreased by five basis points to 4.12% as of 11:30 a.m. in London on February 25. Swap markets are now pricing in 54 basis points of easing from the Federal Reserve by the end of the year, up from 48 basis points just one day earlier.
Monday’s auction of two-year Treasury notes attracted strong demand, further indicating investors’ interest in government bonds amid economic uncertainty. The market is now paying close attention to an upcoming auction of $70 billion in five-year notes.
Bloomberg strategist Mark Cudmore noted a shift in market narrative: “The narrative shifted on Monday, from ‘the new US administration isn’t yet delivering on our pro-growth expectations’ to ‘US policies may be starting to cause real economic damage.'” He suggested this is why US 10-year yields are at their lowest level in more than two months and likely to decrease further in the coming weeks.
Federal Reserve officials’ comments are being closely watched for hints about future monetary policy. Federal Reserve Bank of Dallas President Lorie Logan spoke in London about the central bank’s balance sheet strategy. She indicated that it would be “appropriate in the medium term for the Fed to purchase more shorter-term securities than longer-term ones” so that its portfolio can more quickly mirror the composition of Treasury issuance.
This comment comes as the Federal Reserve is currently reducing its Treasury holdings. Traders are looking for clues about whether the Fed might pause or slow down its balance-sheet reduction process. Minutes from last month’s Fed meeting revealed discussions on this topic, though Logan did not comment specifically on the timing of any slowdown or pause in her Tuesday remarks.
Market participants are also awaiting commentary from other Fed officials. Fed Vice Chair for Supervision Michael Barr is expected to speak on financial stability, and Federal Reserve Bank of Richmond President Tom Barkin will address inflation. These speeches could provide further insights into the Fed’s thinking about economic conditions and monetary policy.
Traders are once again betting on Fed easing.
The increased expectations for rate cuts reflect a change in market sentiment about the US economy. Earlier this year, strong economic data had led markets to scale back expectations for interest rate cuts. Now, with signs of economic weakness emerging, traders are once again betting on Fed easing.
The bond market movements are occurring against a backdrop of ongoing political developments. Trump’s recent comments about infrastructure projects and urban policies have created additional uncertainty about future government spending and economic priorities.
Markets will continue monitoring economic indicators in the coming weeks for further confirmation of a slowdown. As Haddad noted, additional months of poor economic data could significantly change the narrative about US economic performance relative to other countries.
The Treasury yield movements highlight the sensitivity of financial markets to both economic data and policy signals. With the Federal Reserve’s next policy meeting approaching, investors will be paying close attention to any changes in the language used by Fed officials to describe economic conditions and their outlook for interest rates.
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