TREASURIES-US yields advance after Fed's Powell pushes back on December rate cut

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Fed cuts rates, says balance sheet drawdown will end

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Fed's Powell says December cut not a done deal

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December rate cut odds fall after Powell's comments

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US yield curve bear flattens

By Gertrude Chavez-Dreyfuss

NEW YORK, Oct 29 (Reuters) -

U.S. Treasury yields rose on Wednesday after Federal Reserve Chair Jerome Powell tempered expectations for a December rate cut, emphasizing that easing in that month was not assured amid policymakers' sharply divided views on the economic outlook and monetary policy.

The central bank

cut interest rates by a quarter of a percentage point for the second time this year, as was widely expected, with the benchmark overnight rate down to a target range of 3.75%-4.00%.

Market participants were seemingly caught off-guard by a dissent from Kansas City Fed President Jeffrey Schmid favoring no cut at all given ongoing inflation. Fed Governor Stephen Miran also dissented, again calling for a deeper reduction of 50 basis points (bps) in borrowing costs.

In a press briefing following the rate cut announcement, Powell said Fed officials struggled to reach a consensus on the future trajectory of monetary policy, noting that further easing in December "is not a foregone conclusion."

"The rate cut was expected. Powell's remarks took some shine off the market expecting another cut in December," said Michael Rosen, chief investment officer at Angeles Investments in Santa Monica, California.

"Powell is reflecting the tension within the Fed around additional easing at a time when inflation remains elevated and above the Fed's own target."

Following Powell's remarks, the benchmark 10-year Treasury yield climbed to its highest since October 10 and was last up 8.6 bps to 4.07%, while the two-year yield, which reflects interest rate expectations, advanced to a one-month high and was last up 10.8 bps at 3.602%. The 10-year yield recorded its biggest daily rise since June 6, while the two-year yield posted its largest one-day increase since early June. U.S. 30-year bond yields were up 5.1 bps at 4.562%.

ENDING QUANTITATIVE TIGHTENING

The Fed also announced it will restart

limited purchases

of Treasury securities after money markets showed signs liquidity is becoming scarce, finally ending its long-running balance sheet reduction program, known as quantitative tightening (QT).

The central bank also said it was maintaining its current plan to allow up to $35 billion in mortgage-backed securities to expire each month - a target it has never achieved in more than three years of reductions. But beginning December 1, it will

reinvest all proceeds

from maturing MBS into Treasury bills.

"Money market conditions will continue to tighten as the Fed holds their bond holdings steady, but at a slower pace, since the economy will continue to grow and the Fed's balance sheet won't be keeping pace," wrote Bill Adams, chief economist at Comerica Bank in Dallas in emailed comments.

"At some point between March and September 2026, the Fed will likely start increasing the size of their balance sheet to keep pace with growth of the economy," he said.

The end of QT should be bullish for Treasuries because it diminishes the supply that private investors must absorb in the market, pushing prices higher and yields lower. An exit from QT also means the Treasury's financing requirements would decline because it no longer needs to borrow as much to cover the Fed's redemptions.

In other parts of the bond market, the yield curve flattened following the Fed chair's comments, with the spread between U.S. two-year and 10-year yields hitting 46.1 bps , the narrowest gap since September 11. It was last at 47.4 bps, from 48.4 bps late on Tuesday.

The curve displayed a bear flattening pattern, with short-term rates rising more sharply than long-term ones. Analysts said the move reflects market skepticism about the likelihood of another rate cut, even if the Fed is in an easing cycle, as evidenced by the steep climb in the two-year yield.

Post-Fed meeting, U.S. rate futures pricing on Wednesday showed a 67.9% chance of another 25-bps rate cut in December, according to LSEG calculations. That compares with an 85% probability prior to Powell's comments. (Reporting by Gertrude Chavez-Dreyfuss; Additional reporting by Laura Matthews; Editing by Andrea Ricci)