Bond Market Pricing In At Least One Interest Rate Hike In 2022

One of the biggest fears among investors so far in 2021 has been that higher-than-expected inflation could prompt the Federal Reserve to act sooner and more aggressively with tightening measures, including potential interest rate hikes.

In the past month, bond market investors have grown less certain that the Fed will raise interest rates before 2023, but they're still pricing in a greater than 50% chance of at least one interest rate hike in 2022.

The Numbers: According to CME Group’s FedWatch tool, the bond market is currently pricing in a 56.8% chance of a rate hike by December 2022. The good news for stock investors is that that chance is down from 70.2% just one month ago.

Related Link: 3 Digital Currency Challenges Faced By Central Banks, Traditional Banks

Last week, the Labor Department reported its consumer price index (CPI) jumped 5.4% from a year ago, its highest year-over-year growth since August 2008. Core CPI growth, which does not include food and energy prices, was up 4.5% in June, its biggest jump since September 1991.

The Federal Reserve has consistently said elevated 2021 inflation levels are “transitory,” as the economy reopens from the pandemic and investors shouldn’t be concerned that recent inflation readings are well above the Fed’s long-term target of 2%.

“We’ve identified a half dozen things” that “look very much like temporary factors that will abate over time,” Fed Chair Jerome Powell told Congress last week.

The consensus among bond investors appears to be that the Fed’s first rate hike isn’t coming until at least the second half of 2022. The bond market is currently pricing in a 0% chance of a rate hike by the end of 2021 and only an 18.1% chance of an interest rate hike by June 2022.

Investors Trust The Fed: On Monday, DataTrek Research co-founder Nicholas Colas said a late 2022 timeframe for Fed action suggests bond investors aren’t too concerned about inflation.

“That feels correct to us and implies US inflation will subside in line with the Fed’s view that the current +5 percent levels are transitory,” Colas said.

“Fed Funds Futures have a good history of seeing through the Fed’s occasionally erroneous publicly stated policy views, so their current pricing implies the FOMC has things more right than wrong.”

Benzinga’s Take: The Fed has encouraged investors to mostly ignore inflation numbers for now, and the 12.9% year-to0date gain by the SPDR S&P 500 ETF Trust SPY suggests they have mostly listened up to this point. However, investors should continue to monitor the latest inflation developments given the U.S. has issued more than $6 trillion in stimulus since the beginning of the pandemic.

Photo: Dan Smith via Wikimedia Commons