(Bloomberg) — It’s at best, a longshot, but one which’s emerged amongst a bunch of die-hard bond traders — that the Federal Reserve’s next move on rates of interest might be up, not down.
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The wager, which arose after a blowout jobs report on Jan. 10, stands in stark contrast to the consensus on Wall Street for no less than one rate cut this 12 months. That contrarian bet has remained in place even after a benign inflation report on Wednesday strengthened the Fed’s rate-cutting stance and caused yields within the US Treasury market to retreat from multi-year highs.
Based on options linked to the Secured Overnight Financing Rate, traders currently see a couple of 25% likelihood that the Fed’s next move might be to lift rates by 12 months end, in response to an evaluation by Bloomberg Intelligence as of Friday’s close. Those bets were as high as 30% before the patron price data. Up until over every week ago, a hike wasn’t even entertained — 60% of options traders were betting on more Fed cuts and 40% for a pause.
As with so many things in financial markets nowadays, it’s effectively a bet on soon-to-be President Donald Trump’s policies. And it hinges on the concept that tariffs and other policies imposed by the brand new administration will trigger a bounce back in inflation that forces the Fed into an embarrassing about-face.
Phil Suttle, a former Recent York Federal Reserve economist who now runs his namesake advisory shop, sees the Fed mountaineering rates in September. “I even have them not cutting in any respect. And that’s not a mad dog view,” he said on the Macro Hive podcast Friday.
Suttle expects Trump, who takes office Monday, to push through tariffs and restrict immigration, thus lifting inflation. The US is already beginning to see wages pick up again, he said.
For now, Suttle’s view stays extreme. Bond traders have fully priced in a quarter-point rate cut for this 12 months and saw roughly 50% of a likelihood for a second reduction, compared with only one cut every week earlier. On Thursday, Fed Governor Christopher Waller said policymakers could lower rates again in the primary half of 2025 if inflation data proceed to be favorable.
The remarks pushed US government bond yields lower. Earlier last week, the benchmark 10-year Treasury peaked at 4.81%, the very best since late 2023. Long-term yields have been increasing because the Fed began cutting rates in September.
“Should you were to see substantial inflation surprises over the approaching months, you could possibly have a market that starts to flirt with the potential for a rate hike this 12 months,” said Roger Hallam, global head of rates at Vanguard.
Following the December policy meeting, Chair Jerome Powell said to reporters that the central bank was not willing to accept inflation above their 2% goal. When asked if that meant they may not rule out a rate increase in 2025, he said, “You don’t rule things completely in or out on this — on this world.” Though he added that a hike “doesn’t seem like a probable consequence.”
While the bar for rate hikes is high, the Fed has quickly reversed course before. In 1998, officials cut rates thrice in rapid-fire succession to short-circuit a financial crisis brought on by the Russian debt default and the near-collapse of hedge fund Long Term Capital Management. The Fed then began increasing rates in June 1999 to contain inflationary pressures.
“What the market would want to meaningfully price in hikes is for inflation to essentially pick up again — with say headline consumer prices moving to the mid-3% level,” said Tim Magnusson, chief investment officer at hedge fund Garda Capital Partners. “I believe the Fed could be very comfortable sitting on their hands for some time.”
Benson Durham, head of world asset allocation at Piper Sandler and former Fed economist, sees slightly below a ten% probability priced into money-market options for no less than one rate-hike this 12 months, when the contracts are adjusted for term premium, the additional yield that investors are thought to demand for getting longer-term securities, an evaluation he said the Fed has also long used.
“Overall, it seems the market is pretty balanced in seeing risks now of hikes or cuts,” he said.
What to Watch
Economic data:
Jan. 21: Philadelphia Fed non-manufacturing activity
Jan. 22: MBA mortgage applications; Leading index
Jan. 23: Initial jobless claims; Kansas City Fed manufacturing activity
Jan. 24: S&P Global US manufacturing PMI (preliminary); S&P Global US services PMI (preliminary); S&P Global US composite PMI (preliminary); University of Michigan sentiment (final); existing home sales; Kansas City Fed services activity
Fed calendar:
Auction calendar:
Jan. 21: 13-, 26-, 52-week bills; 42-day CMB
Jan. 22: 17-week bills; 33-day CMB; 20-year bond reopening