Finfacts XXIV – No. 467

Washington rumor mill is in overdrive, gaming the Fed Chair succession. Stephen Miran, chair of the Council of Economic Advisors, has just been nominated to serve as a Fed Governor, filling the seat vacated by Fed Gov. Adriana Kugler after a surprising early resignation. The administration has made it clear that this is a “caretaker” nomination; he will most likely serve until Kugler’s term ends in January 2026. Then they will nominate the intended Powell successor, who will serve as Governor and most likely act as a “shadow chair” (advocating for lower rates) until May 2026, when he or she would become the new Fed Chair. Note that Powell can remain on the Board of Governors until January 2028.

Who’s in play to be next Fed Chair? Treasury Secretary Bessent has removed himself from consideration (he could have served in both roles, although that would be unprecedented). The leading candidates were assumed to be the “Kevins”: Kevin Hassett of the Council of Economic Advisors or Kevin Warsh, a former Fed Governor. But over the past 48 hours, a dark horse is now considered the favorite: Fed Governor Christopher Waller, appointed during the President’s first term. He and Fed Gov. Michelle Bowman both dissented at last week’s Fed meeting “pause,” advocating for a cut, something not seen for 30 years. Waller seems to be the one to watch, as he may become a “shadow Fed Chair” during Powell’s remaining term. Speaking of Fed Governors, consensus is building around a now “locked-in’ rate cut in September. Comments this week include the following from Mary Daly: “Clarity may never come, and we can’t wait to act…and I would see additional slowing as unwelcome.” That is a near-exact quote from Powell last year, just before a rate cut. The “market telegraph” is back in operation! Neel Kashkari said: “The economy is slowing…In the near term, it may become appropriate to start adjusting the federal funds rate…what are the ultimate effects of tariffs going to be on inflation? — and what I’m realizing is we may not know the answer to that for quarters, or a year, or more.” By the way, the tariff policies started yesterday at midnight, August 7^th.

Everything up to now has been “prologue,” and the effects will take several months to understand (market participants have remained bullish; see Annie Lai’s comments above). The average effective tariff rate rose from 2.4% in early January 2025 to 18.6% as of today, the highest level since 1933.

Treasuries: The 10-year Treasury dropped to 4.19% (down 15 bps) last Friday on a much-discussed jobs report containing massive revisions to previous months, creating controversy and leading to the firing of the BLS head. This week the 10-year Treasury yields rose, with Wednesday’s auction of new 10-year notes seeing weak demand. Strategists at RBC Capital characterized the auction results as “soft,” with non-dealers of Treasury debt taking somewhat less than the recent average, while the bid-to-cover ratio — a measure of investor demand — dropped to 2.35x from a recent average of 2.51x. The rate now sits at 4.29%. Stay tuned…

By David R. Pascale, Jr., Senior Director at George Smith Partners.

A weaker-than-expected U.S. jobs report, along with sizable downward revisions to prior months, fueled a sharp rally in Treasuries Friday, pushing the 10-year yield down 14 bps on the day and 17 bps lower for the week. Meanwhile, 5-year AAA CMBS spreads over Treasuries widened by 3 bps. Fed funds futures surged, with markets now pricing in 86 % probability to a rate cut in September, a 55 % chance of a second cut in October, and a 43% likelihood of a third reduction by December, implying 2-3 cuts by year-end, up from just 2 expected as last week.

Looking Ahead – Why I See a Capped Yield Curve and Spread

While the recent rally in Treasuries reflects a short-term data shock, I see structural reasons for yields to remain capped in the near term:

1. Economic Data Softness: The latest jobs data confirms a trend of gradual labor market cooling and slower growth outlook. This will likely keep wage pressures in check and limit inflationary risk, reducing the urgency for the Fed to maintain a restrictive stance.
2. Trade War Flame Being Put Out: With tariff uncertainty starting to ease, a major drag on risk sentiment is lifting. This reduced tension could help steady global supply chains without sparking a new wave of inflation. There is still some uncertainty and possible disruption, but market participants are optimistic. Global deal making is surging, with mega deals leading the way. M&A activity has reached $2.6 trillion so far this year, the highest for the first seven months of the year since the 2021 pandemic-era peak. Private equity is back in the game (e.g., Walgreens), and it seems the quest for growth in corporate boardrooms, along with deregulation-fueled optimism, is overcoming tariff uncertainty. Mega-deals are back (Union Pacific-Northern Southern, Palo Alto Networks – CyberArk, etc.).
3. Fed Finger on the Rate-Cut Trigger: The incoming Fed leadership is likely a dove, favoring a more accommodative bias. This shifts market expectations toward earlier rate cuts, or at least a prolonged pause, reinforcing the cap on longer-dated yields.
4. Buy the Rumor, Sell the Fact: If you’re holding out for a dip to lock in fixed rates after a Fed cut, I would suggest you don’t. Markets usually price in such moves well before they happen.
5. Top-Tier CMBS Spreads Remain Compressed: Even with the noise from recent jobs data, investor yield-hunting and strong quality asset demand should keep senior-tranche spreads firmly anchored.

Probabilities of FOMC Rate Moves

By Annie Lai, Analyst at GSP’s Bellevue, WA office.