The expectations from the Federal Reserve’s March meeting have whipsawed over the last week and now many believe that the Fed will not raise rates at all at the upcoming meeting.
At the beginning of the last week, markets were pricing a 25-basis point rate hike in March, with the Fed previously raising rates by 25 basis points in its February 1 meeting.
In December, the Fed raised rates by 50 basis points which was preceded by four consecutive rate hikes of 75 basis points.
Meanwhile, traders reset their expectations after Fed chair Jerome Powell’s Congressional testimony last week where he said that interest rates might need to rise higher than the Fed previously envisioned.
He added that the US central bank might need to increase the pace of hikes to tame inflation.
In his remarks, Powell said: “The latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated.”
Expectations from Fed March Meeting Whipsaw
Notably, the Fed’s December dot plot showed terminal rates at 5.1% and Fed fund rates between 5.0%-5.25%. After Powell’s comments, both the equity and debt markets repriced themselves and the 2-year treasury yield rose above 5% for the first time since 2007.
However, the closure of Silicon Valley Bank and Signature Bank – and fears of contagion on other regional banks – spooked investors and traders, resetting expectations.
Notably, the 2-year treasury yield is now down to around 4% and the US yield curve has steepened which bond guru Jeffry Gundlach sees as a sign of an imminent recession.
While recession impacts most sectors of the economy, some investments are largely recession-proof.
Gundlach meanwhile believes that the Fed should stop raising rates further but admitted that the US central bank might still raise rates by 25 basis points in March as a face-saver exercise.
Chorus for ‘No March Fed Rate Hike’ Rises
Moody’s Analytics chief economist Mark Zandi said that Fed won’t hike rates in March due to the “boatload of uncertainty.”
He added: “I think they’re focused on the bank failures that roiled the banking system and markets over the last couple of days.”
Zandi believes that the Fed might pause rate hikes for now given the banking sector’s troubles which he sees as a more pressing problem – he argued that the US central bank might restart its rate hikes later to tame inflation.
Goldman Sachs also reiterated similar views and does not see the Fed hiking rates in March. It does, however, predict that the Fed would raise rates by 75 basis points in aggregate in the next three meetings.
Traders See Almost a 50% Chance of No Rate Hike in March
According to the CME Fed Watch tool, almost half the traders bet that Fed won’t raise rates at all in March while the other half see a 25 basis point rate hike.
To put that in perspective, a month back, the probability of no rate hike in March was nil while almost 88% of traders bet that the Fed would raise rates by 25 basis points.
The massive swing in market expectations from the Fed’s upcoming meeting is almost unprecedented-at least in the near history.
Meanwhile, US CPI (consumer price inflation) rose at an annualized pace of 6% in February and 0.4% on a monthly basis. The reading came in line with estimates.
Previously, the January inflation reading came in hotter than expected, raising fears of a hawkish Fed. High inflation is invariably negative for risk assets like growth stocks. However, some investment strategies can outperform during high inflation.
With inflation data now corroborating the downward trend in inflation and trouble brewing in the US banking sector—which partially is due to its rate hikes—the Fed faces a tough balancing act.
On the one hand, it needs to signal its support for the US banking sector and economy, and on the other hand, is its often-repeated stance to not rest until it tames inflation.
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