Chances Of A 2021 Fed Interest Rate Hike Have Jumped 13.4% In One Month

The SPDR S&P 500 ETF Trust SPY is down 2.1% in the past five days. One of the issues creating volatility in the markets is the potential inflationary impact of the unprecedented Federal Reserve stimulus measures on the value of the dollar and the possibility that the Fed will need to raise interest rates much sooner than anticipated to keep inflation in check.

Powell Calms The Market: On Tuesday, Fed chair Jerome Powell reassured investors that inflation levels are far from troublesome at this point.

“Following large declines in the spring, consumer prices partially rebounded over the rest of last year. However, for some of the sectors that have been most adversely affected by the pandemic, prices remain particularly soft,” he said.
Powell said the U.S. economy is still far from the Fed’s inflation and employment targets, and investors shouldn’t expect the U.S. to reach those goals any time soon.

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Chances Of Rate Hike Rising: Last August, Powell discussed the Fed’s new “average inflation targeting” policy in which it may keep interest rates near 0% until inflation levels exceed its 2% inflation target. Previously, the Fed had set 2% inflation as the end goal, but the new strategy suggests the Fed may wait until inflation exceeds 2% for some time before it raises interest rates from their current target range of between 0% and 0.25%.

Stocks bounced off their Tuesday lows on Powell’s commentary, but bond market investors are increasingly anticipating the next interest rate hike could come sooner than previously expected. The bond market is now pricing in a 13.4% chance of at least one rate hike in 2021, according to CME Group. Just a month ago, the bond market was pricing in a 0% chance of a rate hike this year.

For what it’s worth, the Federal Reserve itself is not anticipating a rate hike this year. In its most recent dot plot, not a single one of the 17 FOMC members indicated they anticipate a rate hike in 2021. In fact, only one of the 17 economists indicated they expect a rate hike by the end of 2022.

"Perhaps [fed funds futures] are just reflecting the recent moves in 5- and 10-year Treasuries," DataTrek Research co-founder Nicholas Colas said Tuesday. "That’s a fair enough explanation. But perhaps they also tell a story about what Fed officials are saying in private."

Benzinga’s Take: A 13.4% chance is still a fairly small chance, so investors are still doubtful that a rate hike is coming this year. Still, 0% to 13.4% in one month is a sharp rise, so traders should keep a close eye on inflation levels and any commentary from Powell or other Fed governors in coming weeks.