The chances of the Federal Reserve delivering four interest rates in 2018 have ballooned in recent days.
There is a 35.3 per cent chance the US central bank will deliver three more rate rises this year, following its 0.25 percentage lift in March, according to Bloomberg data, which is the highest probability in the history of the contract.
As such, the chance of the Fed delivering at least three interest rate rises this year is sitting at 82 per cent, also a contract-era high.
At its March meeting, the Fed’s forecasts suggested it remained on track for a total of three interest rate rises this year, and the potential fourth had been pushed over into 2019, taking the likely total next year to three.
But there has been a near doubling in the chances of four-for-2018 since April 6 — the day of a weaker-than-expected March jobs report — with investors digesting a spate of economic data as well as Donald Trump’s nomination of economist Richard Clarida to be the next vice-chair of the Fed.
In that time, March readings on producer price inflation came in higher than expected, while core consumer price inflation ticked above 2 per cent for the first time since early 2017 and retail sales growth topped forecasts.
Signs of that are showing in the market. The 10-year break-even rate hit 2.1528 per cent today, suggesting the market is pricing an average inflation rate of that amount over the next decade. That is its highest level since September 2014.
The FT’s John Authers has also been reading the runes, and points to a report by Pimco, where Mr Clarida serves as a strategic adviser, that could be taken as supporting the view the Fed could rate interest rates a little more in the short term, but pause relatively soon.
Two-year US Treasury yields, which are sensitive to Fed policy expectations, are up at 2.4231 per cent today, their highest level since August 2008. That has seen a rise in the so-called shorter end of the yield curve, while longer-term rates have been marching up more gradually.
As such, the difference between 2- and 10-year Treasuries today narrowed to 41.141 basis points, its lowest level since September 2007. This flattening of the yield curve is often regarded as a predictor of economic recessions.
Markets have seemed content to drive up rate expectations despite the recent geopolitical tension regarding Syria and trade spat between the US and China. Even the bout of heightened stock market volatility in February did not deter the Fed from raising rates in March or drastically cutting back on its tightening plans for the remainder of the year.
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