The Treasury market is now back to fully pricing in a final Fed rate hike in July 2023.

The latest shift in Fed policy expectations was accompanied by a fall in Treasury prices, with the yield on the five-year Treasury note rising at least 11 basis points. The sell-off intensified after the Bank of Canada raised interest rates by 25 basis points on Wednesday night.

Swap rates tied to the July meeting climbed to 5.33 percent on Wednesday, 25 basis points above the current effective federal funds rate of 5.08 percent. Swaps in June showed 8 basis points of room for tightening ahead of next week's Fed meeting, suggesting traders are more inclined to think the Fed will "pause" in June. The December swap is about 25 basis points lower than the July contract, implying that the Fed will cut rates by 25 basis points by the end of the year.

Ahead of next week's release of the US consumer price index, a new round of volatility looms over the pricing of Fed policy expectations. The data is scheduled for release on the first day of the Fed's June meeting. Both the headline and core measures are expected to fall, but remain well above the Fed's 2 percent target, according to economists surveyed by foreign media. Marilyn Watson, head of BlackRock's global fixed income team, said all eyes will be on CPI data next week, with inflation still running well above the Fed's target. So they may opt for a "pause". But make no mistake, this does not mean that more rate hikes are a certainty.

The Reserve Bank of Australia and the Bank of Canada both unexpectedly raised interest rates by 25 basis points this week. The market is pricing in another rate hike by the Bank of Canada in July.

Economists at Citigroup said in a note that monetary policy elsewhere points to both the economic risks of stopping rate hikes too soon and the potential for a pick-up in inflation to trigger an "unexpected" rate hike. The Fed's pause could lead to a similar situation in the US, where "central banks, including the Fed, are likely to raise rates sooner rather than later once policy rates are not sufficiently constrained". Their base case suggests the Fed will raise rates by another 25 basis points next week.

The yield curve was actively traded as the 30-year lagged behind selling pressure on the 5-year, triggering the yield curve to invert again. At one point, the 5-year yield was nearly 3 basis points higher than the long bond, the largest inversion since March 22, but it narrowed in late New York trading. This part of the curve steepened to a peak in early May in anticipation of a Fed rate cut later this year, and the subsequent flattening reflected solid jobs data, persistent inflationary pressures, and reduced expectations for easing.