Wall Street, New York – As the Federal Reserve is expected to implement significant rate cuts, the market is anticipating a future effective funds rate of 3% by the end of 2025, a substantial decrease from the current rate of 5.33%. This shift in market rates has already been reflected in the movement of the 10-year SOFR rate, which has dropped over 100 basis points in just three months, standing at 3.4%. This development raises the question – what comes next?

Examining the forward discount reveals an interesting trend where the entire curve is projected to drop to the 3% to 3.5% range over the next five years. However, this projection may not align with market realities. A historical analysis of the noughties decade suggests that a neutral Fed funds rate rests in the 3% area, a level that balances a mildly positive real rate. The expectation is that the Federal Reserve will aim to return to this neutral rate in the coming period.

Further examination of the noughties decade indicates that the average 10-year Treasury yield was around 4.5%, translating to approximately 4% for the 10-year SOFR rate. This fair value reference level provides a framework for understanding current and future rate levels in the market. The analysis also points towards a high current funds rate, signaling potential cuts on the horizon.

Looking ahead, while the 10-year SOFR rate currently sits at 3.4%, slightly below its neutral level of around 4%, there is an expectation that it may continue to decrease before rebounding. Historical data suggests that as the Federal Reserve initiates rate cuts, long-term rates tend to fall in anticipation and upon the actual implementation of the cuts.

The path forward for the 10-year SOFR rate involves potential further declines to around 3%, followed by a likely rebound towards 4%. This trajectory is influenced by various factors, including the Fed’s rate-cutting strategy and inflation risks in the market. Overall, there are indications of a possible steeper curve in the future, with a spread of 100 basis points between the funds rate and the 10-year yield.

In conclusion, the 10-year SOFR rate is expected to fluctuate in the near term, possibly reaching 3% before trending towards 4%. This projection takes into account the Federal Reserve’s monetary policies and economic conditions post the US elections. The evolving market dynamics suggest a shifting landscape for interest rates and investment strategies, emphasizing the importance of strategic positioning for different stakeholders in the financial sector.