Market Predicts Fed Going Higher as Inflation Remains Difficult to Handle
Fed funds futures contracts currently suggest that the Federal Reserve will raise its target rate by half a percentage point in the coming months following a week of data indicating surprisingly surging inflation.
Although the Federal Reserve says it is aiming for a range between 4.5 percent and 4.75 percent with the effective fed funds rate at 4.58 percent, the prices of fed funds futures indicate a 54 percent chance that the target will be a range between 5.25 percent and 5.5 percent following the Federal Open Market Committee meeting in June.
Since a month ago, there has been a significant change in market participants’ opinions. The fed funds futures market suggested in January that the Fed would stop raising rates after one or two more increases. The probability that the rate would fall between 4.75 percent and five percent following the June meeting was 51 percent. The target range of 5 percent to 5.25 percent was inferred by the market to have a 34.2 percent possibility.
The likelihood of the current most likely scenario was only 3.2 percent.
The market has not eliminated the possibility of a pause after the May meeting. This would put the fed funds rate between 5 to 5.25 percent, giving this more or less a 30 percent chance.
Additionally, there is a non-trivial chance that the Fed will decide to raise rates by 50 basis points at its meeting in March. This would be an acceleration of rate increases after a series of 75 basis point increases throughout most of last year, 50 basis points in December, and 25 basis points in February. Due to the fact that a basis point equals one-tenth of a percentage point, a 50 basis point increase is equal to one-half of a percentage point. A month ago, the market-implied no chance at all of that sized hike at the March meeting.
The swings followed a week in which data showed that the labor market was not cooling off and that January’s inflation rate had increased. Jobless claims decreased and stayed below 200,000 for a fifth consecutive week. Inflation increased relative to December, as evidenced by the consumer price index and producer pricing index, and retail sales were significantly greater than expected.