In the weeks since the September FOMC meeting, back-end Treasury yields have jumped by more than 50 basis points. This significant movement is driven by three main factors:

1. Fed’s Approach to Rate Cuts: The Federal Reserve’s recent, substantial rate cut signals a proactive stance, easing concerns that the Fed might fall behind the inflation curve. By front-loading its cuts, the Fed reduces the chance of needing drastic cuts through neutral rates next year.
2. Economic Strength: The U.S. economy continues to surprise to the upside. Recent payroll data smashed expectations, adding 254,000 jobs with a 4.1% unemployment rate. This resilience in labor markets strengthens the argument for a potentially higher interest rate environment.
3. Election-Driven Market Shifts: Political developments are adding fuel to yield increases. Recent polling suggests that the odds of a Trump win and a Republican-controlled Congress are increasing, introducing new expectations about fiscal policy and market impacts.

With the 2024 election fast approaching, let’s explore how two potential outcomes—either a “Red Sweep” or a “Harris Victory with a Divided Congress”—could shape the Treasury market’s future.

Election Scenarios and Treasury Yields

1. A “Red Sweep” Scenario
If Trump wins and Republicans take both chambers, the impact on yields could be considerable. Historically, this scenario has been associated with policies that increase fiscal spending and may reintroduce tariffs. Given the likelihood of higher deficits and increased government borrowing, Treasury issuance would likely increase. This scenario could push back-end yields toward 5%, especially if investors hesitate to buy longer-dated Treasuries, creating a steepening yield curve.

2. A Harris Win with a Divided Congress
In the event of a Harris victory and a split Congress, we expect a different outcome for yields. Tariffs would likely be off the table, and the chances of ballooning deficits could be more restrained. This scenario would put a brake on Treasury financing needs, potentially easing pressure on long-term rates. We estimate that, in this case, back-end yields could pull back to around 4%.

The Bigger Picture: Fiscal Health and Yield Curve Implications

Though deficits are unsustainable in the long term, there’s little likelihood that either party will take on the challenge of a balanced budget. Regardless of the election outcome, fiscal discipline appears unlikely to limit Treasury borrowing significantly.

In the near term, this outlook suggests a steepening curve as the Fed proceeds with gradual rate cuts. We anticipate a 25 basis point cut in November, followed by another in December, with the possibility of skipping January’s cut if economic indicators remain strong. However, for duration buyers, stepping in to counter rising yields may not be an immediate move given the strength of these factors driving yields upward.

Key Takeaways

• Economic and Political Forces Are Pushing Yields Higher: Strong labor data, proactive Fed policy, and election-related fiscal expectations are combining to push back-end yields up.
• Election Outcomes Will Shape Future Rates: A Republican sweep may bring larger deficits and push yields to 5%, while a Harris victory with divided government may ease the pressure on financing needs, pulling yields back to 4%.
• No Balanced Budget on the Horizon: With persistent fiscal imbalances likely, the yield curve is expected to steepen as the Fed continues to cut rates into the end of 2024.

Investors are watching these dynamics closely, as the U.S. approaches an inflection point that could shape Treasury markets well beyond this election cycle.