(Bloomberg) -- Bond traders are bracing for more potential turbulence as the Federal Reserve prepares to step back into the fray and fresh data trickles in.

Concerns about the economic fallout from the coronavirus delta variant have seen Treasury market volatility surge, with the ICE BofA Move Index climbing to an almost four-month high this week. Interest rates have dropped, bets on Fed tightening have been pushed back and there has been a partial unwind of the massive yield curve flattening that followed the Federal Open Market Committee’s last decision and a stronger-than-anticipated consumer-price inflation reading.

Now, attention will turn to whether anything really has changed for officials as they resume their deliberations on when and how to eventually shave down the central bank’s $120 billion per month bond-buying program. The discussion is fraught with potential for comments that investors might interpret hawkishly and that has some options traders taking out insurance against such a surprise when the FOMC gathering concludes Wednesday. Meanwhile, those looking for the Fed to draw in its horns amid the latest epidemic developments might be disappointed.

“We don’t expect the Fed to insert any new dovish rhetoric at this meeting as a result of the delta variant,” said Chris Turner, a strategist at ING Groep NV. “That should help to not defer Fed hike pricing any longer.”

Money markets have already pushed back their pricing of the Fed’s first 25-basis-point hike to March 2023, which compares with the end of 2022 about a week earlier. The median forecast of Fed officials in June, from the so-called dot plot, predicted two rate increases by the end of 2023.

ING forecasts that the first 25-basis-point Fed hike will occur in the third quarter of 2022 -- a far cry from what the market is indicating right now. ING expects officials to wait until their Jackson Hole conference in late August before they start laying the groundwork for an eventual tapering of asset purchases, with an official announcement probable in December.

The widely watched gap between 5- and 30-year yields is currently hovering around 120 basis points, up from its recent lows of less than 108 basis points, but still well below its peak of almost 167 earlier in the year. The benchmark 10-year rate, meanwhile, remains mired beneath 1.30%, around half a percentage point off its March high.

The ICE BofA MOVE Index -- which tracks implied price swings in Treasuries over the next month -- has risen to about 65 after sinking to around 48 on June 10.

Major data releases on economic growth and inflation in the coming week will also help shape the curve and drive the market more broadly. Economists surveyed by Bloomberg are predicting that gross domestic product data for the world’s largest economy will show the U.S. expansion accelerating to an annualized pace of 8.5% in the second quarter, while figures on personal consumption expenditure for June -- a key set of gauges watched by the Fed -- look set to show an increase in inflation.

A robust set of numbers could fuel the argument that the Fed is wrong in dismissing inflation pressures as transitory and needs to act sooner rather than later. Ed Hyman, chairman at Evercore ISI, said this week that retailers have the power to pass on price increases and that “inflation is likely to run ahead of expectations,” while bond-market guru Mohammed El-Erian urged the central bank to “ease its foot slowly off the accelerator.”

Whether the Fed will do that remains to be seen, but what’s clear already is the market isn’t pricing in a sharp tightening cycle. A closely watched market proxy for where policy rates will stand at the end of the entire tightening move, one-month rates traded five years forward, is at about 1.4%. That’s well below the Fed’s forecast for their long-run rate at 2.5%. In the meantime, volatility is ticking up as Treasury investors watch with eager anticipation what unfolds over the coming days and weeks.

What to Watch

  • Economic calendar:
    • July 26: New home sales; Dallas Fed manufacturing activity
    • July 27: Durable goods orders; FHFA House Price index; S&P CoreLogic home prices; Conference Board consumer confidence; Richmond Fed manufacturing index
    • July 28: MBA mortgage applications; retail inventories; advance goods trade balance; wholesale inventories
    • July 29: Core PCE; jobless claims; GDP; personal consumption; GDP price index; Langer consumer comfort; pending home sales
    • July 30: Employment cost index; personal income and spending; PCE deflator; MNI Chicago PMI; University of Michigan sentiment
  • Fed calendar:
    • July 28: FOMC releases its latest policy decision; Chairman Jerome Powell speaks at post-decision press conference
    • July 30: Fed Governor Lael Brainard gives speech on rebuilding the economy
  • Auction schedule:
    • July 26: 13-, 26-week bills; 2-year notes
    • July 27: 5-year notes
    • July 28: 2-year floating-rate notes
    • July 29: 4-, 8-week bills; 7-year notes

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