MACRO FIRESIDE | OCTOBER 23, 2026
One of the more remarkable developments in the Treasury market this year has been the reversal in expectations for Federal Reserve policy.
In March, market pricing broadly pointed to about 50 basis points of rate cuts. By September, the discussion had shifted toward roughly 50 basis points of hikes—a reversal of about 100 basis points in the anticipated direction of policy. These are approximate snapshots, not identical-horizon futures calculations. On October 23, Fed funds futures still indicated further tightening through 2027.
This reversal has coincided with a substantial increase in Treasury yields. The obvious inference is that the repricing of the Fed has driven the bond market selloff. There is considerable merit to that argument, although the relationship warrants closer examination.
The evidence from the Treasury curve
Between March 31 and September 30, the 2-year Treasury yield rose from 3.79% to 4.88%, an increase of 109 basis points. Over the same period, the 10-year yield increased from 4.30% to 5.29%, a rise of 99 basis points.
The near-parallel movement is striking. The 2s10s curve flattened by only 10 basis points despite the considerable increase in yields.
By 14:49 EDT on October 23, both maturities had retreated. The 2-year stood at 4.682% and the 10-year at 4.986%, leaving the curve at roughly 30 basis points, about 11 basis points flatter than at September’s end.
These movements lend considerable support to the view that changing expectations for monetary policy have been an important influence on longer-term yields.
Indeed, the 10-year rose almost as much as the 2-year during the March–September selloff: 99 basis points against 109. Between September 30 and October 23, the 10-year then declined 30.4 basis points while the 2-year fell 19.8. That pattern is consistent with a broad repricing of the rate structure rather than an exclusively long-end phenomenon.
Nevertheless, co-movement is not causation. The front end and long end can respond to the same changes in inflation, growth and economic uncertainty without one necessarily driving the other.
Beyond the next Fed meeting
The October 23 Fed funds futures strip provides further perspective.
The October contract implies an average effective Fed funds rate of approximately 3.88%. By December 2027, the implied monthly average rises to 4.56%. The difference is equivalent to roughly 2.7 increments of 25 basis points, not a prediction that the Fed will necessarily deliver that number of discrete hikes.
The strip thus points to a materially higher rate level extending into 2027, with a plateau in the second half of the year. The monthly contracts do not, without meeting-calendar adjustments, directly establish the probability of a hike at any particular meeting.
This matters for Treasury yields, but the distinction between the number of hikes and the expected persistence of higher rates is essential.
The yield on a 10-year Treasury reflects, approximately, the average expected short-term interest rate over the next decade plus the term premium investors require for holding duration.
A 100-basis-point upward revision in expected short rates lasting only two years would add approximately 20 basis points to the 10-year average, assuming no change in subsequent rate expectations or the term premium. If that revision persisted for five years, its contribution would rise to roughly 50 basis points.
A sustained increase across the entire decade could account for substantially more.
Consequently, the shift from expected easing to expected tightening cannot, by itself, explain the magnitude of the 10-year move. What matters is whether investors have also revised their expectations for the policy-rate trajectory well beyond the current tightening cycle.
The futures market provides useful visibility through 2027. Beyond that horizon, SOFR overnight-indexed swaps offer a more suitable basis for constructing discount factors, zero-coupon rates and forwards. But a market-implied forward is not an unbiased forecast of future Fed policy: risk, convexity and basis premia can affect its level. An OIS forward should not be confused with the model-estimated expected short-rate component of a Treasury yield.
The role of the term premium
The other component of long-term yields is the term premium: the compensation investors require for bearing interest-rate risk over an extended horizon.
Several developments could justify a higher term premium.
Persistent fiscal deficits and substantial Treasury financing requirements may increase the compensation investors demand for absorbing duration. Inflation uncertainty remains considerable, particularly amid elevated energy prices and geopolitical disruptions. Greater volatility in the expected path of monetary policy may also increase the risk premium embedded in longer-term bonds.
These pressures need not operate independently of Fed expectations. An adverse inflation shock, for example, could simultaneously increase anticipated policy rates and the premium demanded for holding long-duration securities.
It would therefore be misleading to treat the two components as competing explanations in every instance.
The more useful exercise is to establish their relative contributions.
Models such as the New York Fed’s Adrian–Crump–Moench framework can decompose longer-term yields into estimated expected short rates and term premiums. The results, however, are sensitive to modeling assumptions and should not be mistaken for directly observable market quantities.
Without a consistent decomposition covering March through October, attributing a precise percentage of the Treasury selloff to either component would be premature.
What is the market telling us about the economy?
There is another consideration, arguably more consequential than the attribution itself.
An upward repricing of the expected Fed funds rate can reflect stronger economic growth, higher inflation, or a deterioration in the inflation-growth tradeoff.
These are quite different economic circumstances, notwithstanding their initially similar effects on interest rates.
If the repricing reflects stronger real economic activity and a higher equilibrium real interest rate, elevated Treasury yields may prove relatively durable. Corporate earnings and risk assets could also be better equipped to withstand higher financing costs.
If, instead, the Fed is expected to tighten primarily because inflation remains stubbornly high despite weakening growth, the implications are considerably less benign. Higher real financing costs, pressure on corporate margins and deteriorating credit conditions could eventually undermine both growth and the expected tightening cycle.
The distinction is particularly relevant amid the continuing energy shock, uncertainty surrounding fiscal financing, and questions about the economic returns on exceptionally large AI-related capital expenditures.
These forces complicate the interpretation of nominal Treasury yields. Rising yields are not necessarily evidence of economic strength, just as falling yields are not necessarily evidence of improving inflation prospects.
Implications for duration
For investors considering an increased allocation to long-duration Treasuries, the distinction between near-term Fed repricing and longer-term rate expectations is critical.
If the expected tightening cycle is subsequently unwound because growth weakens, the front end should respond relatively quickly. The magnitude of any rally in the 10-year, however, will depend on whether longer-run rate expectations and the term premium decline alongside it.
A reversal of two or three anticipated hikes does not guarantee a commensurate decline in the 10-year yield.
Conversely, if weaker economic activity causes investors to lower their estimates of the future equilibrium policy rate while also reducing inflation uncertainty, the resulting duration rally could be considerably more substantial.
This makes the behavior of intermediate and longer-dated forward rates especially important. The 2-year Treasury captures much of the near-term policy debate; 2-year and 5-year forward-starting rates help show whether repricing has propagated further along the curve. They must still be interpreted with allowance for risk premia.
The larger issue
The Treasury market has undergone a substantial repricing since March and changing Fed expectations appear to be an important part of the explanation.
The evidence from the 2-year and 10-year yields is consistent with that interpretation. What remains uncertain is how much of the increase reflects a persistent upward revision in expected future short rates and how much represents an increase in the term premium.
This distinction is not merely academic.
A cyclical repricing of monetary policy is potentially reversible as the economy evolves. A lasting upward revision in equilibrium interest rates or the compensation demanded for duration would be a more consequential development for asset valuations, government financing costs and portfolio construction.
For now, the evidence supports treating Fed-policy repricing as a major contributor to the Treasury selloff, without assuming that it accounts for the entire move.
The durability of higher Treasury yields will depend less on the next Fed decision than on where investors ultimately believe short-term rates will settle over the years that follow.
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Notes: March 31 and September 30 observations are U.S. Treasury daily par yields, shown to two decimals. October 23 yields are intraday market marks at 14:49 EDT (2Y 4.682%, 10Y 4.986%), not official closing yields. The March and September descriptions of policy expectations are approximate and have not been reconstructed on a common contract horizon. Fed funds futures prices are from October 23 at approximately 13:46 EDT and imply monthly average effective rates. Hike equivalents are rate-level comparisons, not meeting probabilities. SOFR OIS forwards include risk premia.