Rate realities await the next Fed Chair Rate realities await the next Fed Chair http://www.federatedinvestors.com/mmdt/static/images/mmdt/mmdt-logo-amp.png http://www.federatedinvestors.com/mmdt/daf\images\insights\article\federal-reserves-dark-clouds-small.jpg February 4 2026 February 4 2026

Rate realities await the next Fed Chair

Yield curve dynamics may be in flux once Warsh is in office.
Published February 4 2026

Treasury yields rose modestly across the curve over the first month of 2026 with the US 10-year rising eight basis points (bps). Besides spiking Japanese bond yields and weakness in the dollar to start the year, the big news was President Trump’s January 30 nomination of FOMC veteran Kevin Warsh to replace Federal Reserve (Fed) Chair Jerome Powell in May. Warsh is a very credible pick with a record of being an inflation hawk and, most importantly, a staunch defender of Fed independence. His history of leaning hawkish on rates for fear of inflation has morphed to fit his perception of current economic conditions and, perhaps, the necessities of “winning” the nomination. In contrast, many on the FOMC remain cautious on further rate cuts.

Regime change

Warsh has called for "regime change" at the Fed, focusing on shaking up Fed staff, frameworks, and communications in addition to shrinking the balance sheet. He argues that a Fed with a smaller balance sheet that sticks to its core objectives is more stable in its political independence than one with an excessively broad scope and large balance sheet, the latter opening the Fed to greater interaction with fiscal policy and accompanying political risks. Warsh's reported switch to dovishness on short rates appears to be linked to his goal to shrink the Fed balance sheet and reduce portfolio holdings on the longer end of the curve (likely including in mortgages (MBS). 

Warsh believes asset expansion at the Fed should only be resorted to in emergencies and promptly reversed thereafter. He feels the Fed's still-large balance sheet distorts market signals and allows for fiscal profligacy. His recent embrace of lower short rates also seems linked to his view that the US economy is undergoing a productivity revolution that will allow for less-inflationary growth. Warsh's investment background has provided knowledge of the goings on within the tech side of the economy, underpinning his view that tech innovation can support low-inflationary growth and allow for lower target short rates in the near term. 

Interest rate implications

Warsh may change how the Fed communicates and implements policy frameworks to attempt to be more forward looking — he has spoken against interest on excess reserves and may lighten the Fed's long-term holdings. If he gets all that he wants, we may see steeper yield curves and lower short rates in the medium term (say one to two years). 

In the near term, Warsh faces the challenges of divergent opinions on the FOMC and institutional inertia that may slow, but not halt, changes in Fed practices and frameworks. Also, any effort to reduce and shorten the Fed's portfolio may occur within the context of some more aggressive changes at the Treasury to try to lower long yields by countering the effect of Fed portfolio shifts. For example, since the Fed wants more short duration, the Treasury may oblige and issue more short duration. One step further, the Treasury may buy back bonds on the long end, funded by over-issuance at the short end. The interplay between Fed and Treasury could foil expectations for yield curve steepening in the near term, but probably not longer term. 

Turning to our near-term tactical view on US rates, our duration call has shifted to a slight short position relative to benchmark as we see a skew towards somewhat higher levels for the following reasons:

  • The US economy is growing solidly above trend and above consensus expectations.
  • The One Big Beautiful Bill Act will provide several types of fiscal stimulus, boosting growth in 2026.
  • AI-related capital expenditures likely will intensify in 2026.
  • Stimulative financial conditions persist, creating wealth effects that support upper income  household consumption and keep capital flowing, supporting growth.
  • Upside US data surprises suggest prospects for some rebound in job creation.
  • Inflation remains stubbornly above target.

All that said, we have kept only a small short due to these bond-supportive considerations:

  • Warsh will likely speak about lowering short rates based on productivity boosting potential growth.
  • Real rates remain high compared to recent history.
  • Investor sentiment and flows may favor bonds given rebalancing after a huge equity run.
  • The US may strike Iran militarily, though negotiations have begun.
  • China continues to export deflation and actively protect its interests.


Read more about our current views and positioning at Fixed Income Perspectives

Tags Fixed Income . Interest Rates . Monetary Policy .
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