Market Now Sees Fed Going Higher as Inflation Proves Tougher To Tame

Following a week of data showing unexpectedly resurgent inflation, fed funds futures contracts now indicate the Federal Reserve will hike its target rate up by half a percentage point in the coming months.

While the effective fed funds rate is at 4.58 percent and the Fed says it is targeting a range of between 4.5 percent and 4.75 percent, prices of fed funds futures imply a 54 percent chance that the target will be a range of 5.25 percent and 5.5 percent after the June meeting of the Federal Open Market Committee.

This is a dramatic shift in the views of market participants from a month ago. Back in January, the fed funds futures market implied the Fed would pause after one or two more hikes. There was a 51 percent chance that the rate after the June meeting would be between 4.75 percent and five percent. The market implied a 34.2 percent chance of a target range of five percent to 5.25 percent.

The scenario now seen as most likely had just a 3.2 percent chance.

The market has not ruled out a pause after the May meeting, which would put the fed funds rate between five to 5.25 percent, giving this around a 30 percent chance.

There’s also a non-trivial chance that the Fed could adopt a 50 basis point rise at the March meeting, which be an acceleration of hiking after the series of 75 basis points through most of last year and 50 basis points in December was followed by 25 basis points in February. A basis point is one-hundredth of a percentage point, so a 50 basis point hike is one-half a percentage point. A month ago, the market-implied no chance at all of that sized hike at the March meeting.

The swings came after a week in which data indicated that the labor market was not cooling off and inflation picked up in January. Jobless claims fell and remained below 200,000 for the fifth straight week, the consumer price index and the producer price index showed a rise in inflation compared with December, and retail sales proved much stronger than anticipated.