There’s this strange thing currently going on between bond markets and real-world economic data. Bond markets anticipate significant US rate cuts, to the point that futures suggest the Federal funds rate could reach 3% by August 2025 and 2.8% by December 2025. This would imply a 175-200 basis point (bp) drop in interest rates over the next year. However, such cuts seem inconsistent with actual economic conditions, suggesting that only a full-blown recession would warrant such a significant monetary easing. Yet, current economic data does not indicate an imminent recession.
The US economy, according to the latest payroll statistics, is only slightly below its trend growth rate, with inflation still running considerably higher than the Fed’s historical target of 2%. Despite these realities, the bond market seems to be pricing in a 70% chance of a recession, as per a calculation by JP Morgan, while equity and credit markets imply only a 9% risk of an imminent economic downturn. These divergent predictions suggest the bond market may be wrong again, as it has been since the yield curve inversion in October 2022.
Federal Reserve Actions and Market Expectations
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