Bonds Gettin' Ready For The Fed

Volume is low as the market gears up for an expected 25-basis-point rate hike tomorrow.
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On days like this, the only jockeying most dealers are doing is for a better tee time. It's Monday, it's the last week of August, and, um, there's a freakin'

Fed

meeting tomorrow.

Needless to say, there's not much activity today. Even though it's a foregone conclusion to the market that the Federal Reserve will raise the fed funds target rate by 25 basis points tomorrow to 5.25%, nobody's stupid enough to do any real trading before that release, lest the Fed surprise anybody. Lately the 30-year Treasury bond was down 1/32 to 101 25/32, as the yield rose by 2 basis points to 6.00%.

Over the last six sessions, the bond market has improved dramatically. Friendly economic reports have produced a sense of guarded optimism in the market. Bond dealers are no longer expecting two or more rate hikes by the end of this year -- rather, they're guessing tomorrow's anticipated rate hike will be the year's last.

"The forward-looking optimism has helped the bond in the last few sessions," said Ken Fan, Treasury market strategist at

Paribas Capital Markets

. "Once we get the 25-basis-point hike, you could have a relief rally."

How the market reacts to the rate hike tomorrow also depends on what kind of statement the Fed releases. If hawkish words that highlight the risks of wage inflation accompany the rate hike, it would put the market on notice that the Fed's probably not finished hiking rates. The market does not expect the Fed to adopt a bias toward tightening rates -- it's generally the Fed's practice to return to neutral after each meeting. This surprised the market in June because the Fed previously didn't disclose their bias immediately after the meeting -- the market was expecting a tightening bias, and when it didn't get it, used that as an impetus to rally.

A

Bloomberg

survey this morning said 29 out of 30 primary dealers are expecting a rate hike tomorrow (the holdout is

Bear Stearns

).