MBS Live Recap: Fed Hikes, But Tame Dots Fuel Bond Rally

Yesterday's recap said that bonds were dreaming about the Fed's dot plot (the economic projections released with today's Fed announcement).  In spite of nightmare potential, today's Fed announcement turned out to be a dream come true.  The dots conveyed NO CHANGE in the median view of the Fed Funds Rate at the end of 2017 or 2018!

This is huge.  In plain English, it means the Fed wasn't expecting the same increase in the pace of rate hikes that bond traders had begun to price in over the past few weeks.  In plainer English, we knew the hike would happen, but we didn't know what the Fed was thinking about the pace of additional rate hikes.  Now we do, and it's slower than traders expected.

This facilitated an immediate rally for bond markets following the Fed announcement.  Markets held back just a bit as Yellen's press conference was yet to come.  But as Yellen spoke, it became increasingly clear that she wasn't interested in pushing back on the market reaction.  

When asked why she thought the Fed and markets were so far from being on the same page heading into March, she essentially said that markets got the wrong impression from a Dec 2015 hike that seemed to be perennially delayed, followed by a 12-month wait for the next hike.  The Fed needed to give markets a wake up call to get them onboard with a March hike and a faster rate hike timeline overall, but that didn't mean the timeline had accelerated too terribly much from the last round of Fed forecasts.

Indeed Yellen... indeed.  Now we see that, and we're pleased with the reaction.  10yr yields fell abruptly, ending the day more than 10bps lower at 2.50%.  Fannie 3.5s gained more than 3/4ths of a point, and lenders generally passed most of those gains through to rate sheets.