Treasury yields rose substantially as minutes of Federal Reserve officials' latest meeting showed they are increasingly confident that the central bank should further tighten monetary policy.
A majority of Fed officials believed at the Federal Open Market Committee meeting last month that an improved economic outlook "raised the likelihood" of further hikes in the federal funds rate, according to minutes of the meeting.
Analysts say the minutes showed little sign of Fed officials wanting to go faster than the three rate hikes they have penciled in, though they agree that Fed officials are now more certain about that approach.
That is partly because the economic effects of a recently passed tax law "might be somewhat larger in the near term than previously thought," and the global economic outlook also looks brighter, the minutes say.
"The January Fed minutes reveal an FOMC wrestling with stronger-than-expected growth, higher growth forecasts and roaring financial markets," wrote FTN Financial Chief Economist Chris Low. "Against that backdrop, they felt the case for tightening was stronger than it had been before, but not so strong that it would be necessary to abandon a gradual tightening pace."
The news led to an increase in yields for 10-year Treasurys, which rose to 2.943% as of 2:59 p.m. ET, up from 2.89% the previous day, according to Yahoo Finance. The major stock indexes, meanwhile, dropped slightly, with the S&P 500 falling 0.55% to 2,701.33.
BMO Capital Markets analysts wrote that a rate hike during the FOMC's next meeting in March is now more certain, and they recently increased their prediction for Fed rate hikes from three to four. The minutes showed no signs of the FOMC preferring four hikes, they noted, adding the "crucial caveat" that the FOMC meeting came before Congress approved a budget deal to further boost federal spending and a recent sell-off in the stock markets.
Overall, they wrote, the minutes show a "subtle shift in confidence" from Fed officials.
Fed officials more upbeat about inflation, but division continues
The FOMC's post-meeting statement said inflation is "expected to move up this year," removing previous language that said it is expected to remain below the Fed's 2% goal. The Fed's preferred gauge of inflation — personal consumption expenditures excluding food and energy — rose by 1.5% in December 2017 compared to the previous year.
The FOMC minutes show that Fed officials think inflation will "continue to gradually rise" throughout the year and reach the Fed's 2% goal over the medium term.
Still, the minutes show that divisions over the inflation outlook remain.
Although "many participants" think the public's long-run expectations of inflation are still anchored at that 2% target, a few of them said the persistent undershooting of inflation may have led to a drop in long-run inflation expectations. The minutes show that a couple of FOMC members saw "little evidence of a meaningful improvement" in inflation or that wages are rising substantially.
Fed officials also discussed the possibility of shifting away from the explicit 2% target they established in 2012, potentially by switching to a target range or by making up for inflation misses later on. But the discussions are still at an early stage. Former Fed Chairman Ben Bernanke, for example, has said a "serious debate" will happen next year.