Oil prices turn lower as Bessent says U.S. may have Iran deal "today or tomorrow"
We don’t call for a hike, but can see how it could happen. Kevin Warsh does not believe in forward guidance. He might also have a preference not to slavishly deliver the market discount. If so, and if Warsh is minded to hike (maybe he is), better to do it now rather than ’risk’ it being fully discounted at a subsequent meeting. Where’s the nouveaux Fed in that?
Even the Expected Unchanged Outcome From the Fed Would Contain an Element of Surprise
The upcoming FOMC meeting will be the first in quite some time that a large portion of observers will get an outcome they did not anticipate. It’s practically on a knife-edge, at 60:40 in favour of no change. The logic for no change centres, in part, on the calming in June inflation readings. President Trump has also helped pave an unchanged bias given the seeming renewed halt to hostilities with Iran. And from a macro perspective, the US economy is exhibiting vulnerabilities outside of tech. Add to that the five task forces now working on re-wiring the Fed, and an unchanged outcome is rational – just hold pat for now.
That said, the Federal Reserve could be forgiven for lobbing a protective hike in. It’s what central banks tend to do when there is a perceptible rise in inflation over and above preferred ranges. The market has been paving a path towards a hike for this reason, as it’s the logical market discount to have. Betting that the Fed will absolutely not hike at all in the coming months is the far tougher call to make. The fact that longer tenor yields have hit new local highs points to a degree of angst, even if that has come primarily from higher real yields. Importantly, a 25bp hike would help validate Chair Kevin Warsh’s quest for price stability, with enhanced credibility to boot.
There is also a scenario where the committee votes by a majority for a hike, but Warsh remains aloof on the decision. After all, he does not have a dot in the dot plot, and he has actually not telegraphed whether he’s in a hawkish or dovish mood. If the committee did deliver a hike, Kevin Warsh would probably not expressly endorse the move, but rather simply deliver it. He did the same when he delivered a "no change" outcome at the previous FOMC meeting. This is why this meeting is actually quite pivotal, and even more so if there was a hike delivered. From Warsh’s perspective, it would be a classic "no forward" guidance move, which must be tempting.
Our call is for no change. We see inflation expectations tame enough for comfort. Also, the structure of the curve does not shape up for a rate-hiking cycle. Specifically, the 5-year is rich to the curve. It’s unusual for the Fed to start a rate hiking cycle with the 5yr rich to the curve. If we’re wrong and the Fed does hike (whether at this meeting or the next), the curve structure suggests that any hikes delivered will be subsequently reversed, and the funds rate ends up lower than it is today within a 12-month window.
One final point – if Warsh is minded to get a hike in (and maybe he is), better to do it at this meeting than to wait for it to be discounted by the market at the next one. The temptation to show some Fed independence vis-à-vis the market must absolutely be there. For clarity, we don’t call for a hike. But the 60:40 breakout gives Warsh a choice price to deal with, and he might just want to make a splash.
Disclaimer: This publication has been prepared by ING solely for information purposes irrespective of a particular user’s means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more
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