Market-based Fed rate expectations continue to rise
Source: Bloomberg Finance, L.P., as of October 27, 2022.
- Markets have rallied over the past two weeks with stocks rising more than 6% while yields have stalled following their steep climb for much of this year.1
- While GDP data released this week strengthened the case the inflationary pressures have already cooled, recent history may serve as a caution sign. As the chart shows, investors have notably been caught flatfooted several times this year, as they attempted to front run a dovish Fed pivot that never materialized.
- In fact, market expectations for the Fed funds rate have increased sharply over the past four months. Since June 30, the Fed’s terminal (or peak) rate has risen by almost 1.35%, as investors currently expect the Fed funds rate to reach nearly 5.0% in May 2023, before policymakers gradually back off.1
- Markets are forward-looking and investor expectations surrounding a Fed pivot could prove prescient. Yet, recent history has shown the potential dangers of relying on a Fed pivot before inflation has shown evidence of moving consistently lower. This is particularly true today, as multiple drivers of potential volatility remain in place: Another disappointing CPI report, further earnings or geopolitical deterioration, to name a few.
- Against this backdrop, investors would be wise remaining prepared for further volatility until policymakers see further evidence the inflation dragon (particularly in services) has been slayed.