The once unimaginable scenario of the Federal Reserve not cutting interest rates in 2024 is now giving way to another possibility: the Fed will raise interest rates slightly by 25 basis points in June.
This latest scenario can be seen from the Atlanta Federal Reserve's Market Probability Tracker. As of this week, guaranteed overnight financing rate (SOFR) options reflect an approximately 3.6% chance of raising interest rates by 25 basis points in June.
Options traders have been discussing interest rate hike scenarios for months. Federal funds futures also briefly reflected the possibility of interest rate hikes on Thursday after data was requested at the beginning of last night showing no increase in layoffs, and the Philadelphia Regional Factory Index reflected an improvement in economic conditions. However, traders are still unwilling to fully price the possibility of the Fed's interest rate hike, and instead prefer to keep the Fed on hold until September.
Scott Buchta, head of fixed income strategy at Brean Capital in Tennessee, said: “We are seeing more and more customers discussing interest rate increases. On the question of how many times the Federal Reserve has cut interest rates, more people now think that the number of interest rate cuts in 2024 will be one or zero.”
The strategist said the threshold for the Fed to raise interest rates could be high. He also added that his company believes that the US economy can continue to grow and inflation is mitigated, and there is a 60% chance that policymakers can cut interest rates twice this year and then cut interest rates three more times in 2025.
Scott Buchta said that people are beginning to shift to “inertial trading,” where US inflation remains sticky, the economy remains stable, and the Federal Reserve remains on hold, thus encouraging greater interest in short-term floating interest rate assets.
On Thursday, FOMC Permanent Voting Committee and New York Federal Reserve Chairman Williams stated that “raising interest rates is not a basic situation,” but he did not rule out the possibility that the Fed's next move might be to raise interest rates. He said that if data shows that interest rates need to be raised to achieve the Federal Reserve's goals, policymakers will clearly be willing to do so.
“Williams did not refute interest rate hikes,” said Derek Tang, an economist at Monetary Policy Analytics in Washington. The policy-setting FOMC “still has plenty of room to eliminate expectations of interest rate cuts, which will tighten financial conditions.” Tang said over the phone: “I think they are nervous about raising interest rates again, and I hope they can control the risk of a recession. But they're walking a tightrope, and there's much less room for mistakes now than a few months ago.”
On Thursday, the 1-year inflation swap was 2.72% (an inflation indicator based on market expectations), higher than the January level, but still far below the level of about 6% during 2022. According to foreign media data, the yield on policy-sensitive 2-year US Treasury bonds rose to close to 5%, while most major US stock indexes closed down.
Robert Daly, director of the fixed income division at Glenmede Investment Management in Philadelphia, which manages more than $4.5 billion in assets, said the current focus is “what higher interest rates mean for a longer period of time, which is beginning to have an important impact on risk asset valuations.”
Daly said by phone on Thursday: “There isn't much discussion about interest rate hikes, but if we don't see the perfect anti-inflation scenario unfold, such discussions may heat up quickly.”
Editor/Jeffrey