Markets Await Fed Clarity 

Adam Phillips, Managing Director, Investments 

Last week, rising Treasury yields captured investors' attention. This week, the U.S. Treasury responded by announcing a plan to increase purchases of longer-term Treasury bonds in an effort to help ease upward pressure on interest rates. While the announcement initially boosted bond prices and lowered yields, the market's reaction quickly faded, highlighting investors' continued concerns about the broader forces driving rates higher.

The Treasury's expanded buyback program will double its liquidity support purchases from $2 billion to $4 billion, with approximately $20 billion in longer-term Treasury securities expected to be repurchased between September and early November. Unlike quantitative easing, the program does not involve creating new money. Instead, the Treasury is replacing some longer-term debt with additional short-term Treasury bills.

Although the announcement provided a short-term boost to the bond market, many investors questioned whether the program is large enough to make a meaningful difference. Compared with the more than $32 trillion of government debt held by the public, a $20 billion buyback represents only a small fraction of the overall market. As a result, the announcement may have been more important as a signal that policymakers are paying attention to higher yields than as a solution to the underlying problem.

Those underlying challenges remain largely unchanged. Persistent federal budget deficits continue to require significant Treasury issuance, inflation has remained above the Federal Reserve's target for several years, and geopolitical developments—including energy disruptions and new tariffs—continue to create inflationary pressures. At the same time, investors have more alternatives as yields rise globally, while AI-related companies continue issuing large amounts of debt to finance infrastructure investments. Together, these factors continue to place upward pressure on longer-term interest rates.

Attention now turns to Federal Reserve Chairman Kevin Warsh's upcoming remarks at the Jackson Hole Economic Symposium. Investors will be listening closely for greater clarity on how the Federal Reserve intends to respond if inflation remains elevated. While recent Fed leadership has intentionally reduced forward guidance, markets continue to look for a better understanding of the economic conditions that would prompt future policy action.

Ultimately, investors are looking for greater confidence that inflation and long-term interest rates will remain under control. The Treasury has demonstrated that it is monitoring bond markets closely, but many believe meaningful progress will also require clearer communication from the Federal Reserve regarding its approach to inflation and future interest rate decisions.

Often quoted in major national media, Adam is a Chartered Financial Analyst (CFA^®), a CERTIFIED FINANCIAL PLANNER™ (CFP^®), and has been included on the Forbes NextGen Best-in-State Wealth Advisors 2019 list. He is a member of the CFA Society of Los Angeles and the CFA Institute. Adam helps establish asset allocation strategy as a member of the EP Wealth Investment Committee, which supports all EP Wealth Advisors and their clients. The Committee’s top-down approach to portfolio construction begins with an outlook on the economy’s likely direction, followed by the implications for different economic sectors and asset classes. This culminates in strategic selection of the individual stocks, bonds, mutual funds or other investments deemed most appropriate for each individual client’s portfolio. 

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Video Transcript: 

Adam Phillips:

Last week, we talked about how rising bond yields were starting to garner the attention of investors.

Well, apparently we weren’t the only ones paying attention.

On Wednesday, Treasury Secretary Scott Bessent announced plans to increase the Treasury Department’s purchases of longer-term Treasury bonds, in hopes that it would help stem some of the recent rise in yields.

And probably not a coincidence that, on the very same day, the Treasury made a separate announcement that the national debt had surpassed $40 trillion for the first time.

I’ll spare you the details of how the Treasury’s buyback program actually works. But, in short, the Treasury doubled the size of its liquidity support purchases from $2 billion to $4 billion.

The expanded program is scheduled to run from September 9th through November 4th and, in total, the Treasury is expected to purchase roughly $20 billion of longer-term Treasury securities.

One important distinction here: this is not quantitative easing.

The Treasury isn’t creating new money to buy bonds the way the Federal Reserve would. Instead, it’s essentially funding these purchases by issuing more short-term Treasury bills.

So, in very simple terms, the government is retiring some longer-term debt and replacing it with shorter-term debt.

Bond investors initially liked the news. Treasury prices rallied and yields moved lower.

The problem is…it didn’t last very long.

And I think there are a couple of reasons for that.

First, while $20 billion sounds like a big number, it’s really a drop in the bucket when you compare it with the more than $32 trillion of government debt held by the public.

So I think the announcement was probably more important for its signal than for the actual dollars involved.

Secretary Bessent is essentially telling the bond market: We’re paying attention to yields, and if they move materially higher, we have tools we’re willing to use.

That may help put something of a ceiling on yields in the near term.

But ultimately, we’ll have to see. The fact that the initial rally in bonds reversed so quickly suggests investors aren’t entirely convinced.

The bigger issue is that none of this really addresses the structural forces that have been pushing longer-term interest rates higher in the first place.

We talked about several of those last week.

You have the continued lack of fiscal discipline in Washington and the enormous amount of debt the government needs to issue to finance annual deficits of close to $2 trillion.

You still have inflation concerns. Inflation measures have run above the Fed's 2% target for more than five years, and getting inflation back to target is likely to remain difficult given the ongoing energy disruption in the Middle East and recent tariff announcements between the U.S. and Canada.

Finally, there’s simply more competition for investors’ money. Yields overseas have become more attractive, while at the same time we’re seeing significant bond issuance from AI-related companies as they raise enormous amounts of capital to fund data centers and other infrastructure.

So while the Treasury can influence the supply of longer-term bonds around the margins, it can’t make those underlying issues disappear.

Which brings us to what I think is the biggest event for markets this week: Fed Chairman Kevin Warsh’s speech at the annual Jackson Hole Economic Symposium on Friday.

This is an important opportunity for Chairman Warsh.

If he wants to restore some confidence in the bond market—and potentially create a more sustainable decline in Treasury yields—I think investors need to hear something more concrete about his inflation-fighting resolve.

Specifically, markets want a better understanding of the Fed’s reaction function.

In other words: What would actually cause the Fed to act and raise rates?

Is it headline inflation reaching a certain level? Core inflation? Inflation expectations? Wage growth? Some combination of those things?

Markets don’t necessarily need an exact formula. But they do need a better sense of what policymakers are watching for.

There was an interesting Financial Times article recently that analyzed the language Chairman Warsh tends to use compared with his predecessors. What stood out is that he tends to focus much more on words related to process than on specific economic data points.

That actually makes sense for somebody who has talked so much about changing the Fed’s operating regime and the way monetary policy is conducted.

But right now, I think the market needs something a little more concrete to go on.

Maybe Chairman Warsh is right. Maybe investors got spoiled by years of forward guidance, when Fed officials seemingly told markets exactly what they were thinking and what they planned to do next.

But forcing investors to go cold turkey from that level of communication has proven to be a difficult transition.

And that’s why Friday matters.

The Treasury has now shown that it’s paying attention to higher long-term rates. This week, investors will be looking to see whether the Fed can give them greater confidence that inflation—and ultimately the forces pushing those rates higher—will remain under control.

We’ll be watching closely, and we’ll look forward to providing you with an update next week. See you then.

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