BMO Assess The Belly Of The Curve & Immediate FOMC Policy

BMO note that "in contemplating the risks surrounding the next Fed meeting, it largely comes down to the 2- versus the 5-Year sector. The more reactive one expects the Fed will be via signalling through the dotplot, the more attractive it will be to position for a 2s/5s flattener. On the flipside, in the event the Fed doesn't use the market's pricing cover to bring forward more hikes into 2022, than 2s/5s will steepen. All else being equal, the steepening potential is greater given that the further behind inflation the Fed is believed to be, the more tightening investors will price in for 2023 and beyond. There is a compelling argument that by holding the 50/50 odds for a quarter point move next year, not only would the Fed materially undermine those anticipating 2-3 hikes, but such signalling would undoubtedly trigger a more meaningful discussion around terminal rates for this cycle. Anything contributing further to the perception that the FOMC will need to play 'catch up' to avoid an inflationary spiral will only exaggerate the significant underperformance of the 5-year sector already embedded in the forecast."