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Dovish PCE Keeps September Rate Cut In Play

A review of May PCE data, the yield curve, and much more

Author

Yimin Xu
June 28, 2024

Hi YXI Friends,

Today is the final trading day of June. We will take the time to review the following:

DISCLAIMER: None of this is financial advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. Please be careful and do your own research.

1. May PCE

Today’s May PCE data came in line with consensus. The Headline PCE came in flat MoM, and the Core PCE grew by just 0.1% from April.

Both the Headline and Core rose 2.6% YoY. They are trending down from April. This is right where the Fed projected for the year-end inflation in the June FOMC.

PCE and Core PCE both dipping on a 3-month annualised basis.

The Fed likes to see this. Many recent speakers have praised the recent inflation data. If we get another two set of these before the September FOMC, we could hopefully get enough FOMC members onboard for the first cut then.

2. The Fed Funds path

The Fed Funds futures barely budged after the PCE data. The market is still set on 2 rate cuts before the 2024 year end.

It feels the Fed needs to either aggressively talk down the September cut or some bizarre CPI & PCE data to come out in the next two months for the market to reprice this.

3. Medium and longer-end yields

SOFR (Secured Overnight Financing Rate) 3-month futures see a floor of 3.5% in 2027. If the Fed achieves their inflation target by then, it implies a real yield of 1.5%.

There is a difference of 5bp between SOFR and Fed Funds (known as the EFFR-SOFR OIS basis).

Further out the curve, we are still stuck above 3.5% in SOFR rates. Note that SOFR yields are lower than bond yields.

4. Treasury General Account changes

The TGA balance has been climbing since mid-June. It rose by $146 billion on June 17. When the TGA balance rises, the market liquidity worsens. You can think of it as the US Treasury sucking money out of the economy to hoard it in its bank account.

A quick reminder about the TGA:

The Treasury General Account (TGA) can be thought of as the main "checking account" for the US government, where the US Treasury maintains and manages its funds to conduct daily operations.

The TGA is maintained at Federal Reserve Banks - the US government deposits its revenue into the TGA and then uses that money to pay for its various obligations. It goes up when it collects tax receipts or issues debt, and goes down when it spends its budget, for example on government worker salaries.

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The TGA balance has a moderately positive correlation with the Treasury yield. When the TGA rises, yields tend to come up as well. You can see that being the case in the chart above, until the June month end.

The TGA balance is sometimes negatively correlated with equities, represented by QQQ and SPY in the chart above. Unfortunately, there was no obvious pattern in June.

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