FOMC continuing course with large rate hikes
Hedging and Capital Markets
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On Wednesday, July 27, the Federal Open Market Committee (FOMC) voted unanimously to raise the federal funds target range by 75 basis points to 2.25–2.50%. This is the second consecutive meeting that resulted in a three-quarters of a percent increase intending to subdue inflation that's been running at a 40-year high. From Chair Powell's comments, we can expect three to four additional rate hikes with a year-end goal of 3.00% to 3.50%. The Federal Reserve Board stated they are committed to achieving maximum employment and returning inflation to 2.00%. Commercial real estate (CRE) investors borrowing on floating-rate debt can expect to see unhedged loans become increasingly expensive as rate hikes continue.
- The Federal Reserve raised rates by 75 basis points to a target range of 2.25–2.50%. The board believes ongoing rate hikes are justified, and the magnitude of interest rate increases will depend on economic data.
- The FOMC will continue with the balance sheet runoff program outlined in May's meeting. The Treasury roll off will be doubled to $60B in September and MBS roll off increased to $35B.
- The board believes they are still 2–2.5 years away from reaching equilibrium with their balance sheet. Meanwhile, the market is confident in continued large rate hikes pricing in another 50+ basis point rate hike at September's meeting.
- SOFR and LIBOR track the federal funds rate closely. Today’s 75 bps hike will continue to increase current interest expense on unhedged floating-rate debt.
The Federal Reserve voted unanimously to increase the federal funds target range by 75 basis points, the second consecutive increase of this size. The Federal Reserve Board remains highly attentive to inflation and is taking steps to help reduce inflationary pressures. The Federal Reserve will remain on course with their balance sheet run off program which began on June 1, 2022. The balance sheet run off program is set to double the value of Treasuries and MBS rolling off starting in September. Chair Powell stated that the board will continue with rate hikes with an aim of achieving a range of 3.00–3.50% by the end of the year.
The United States has seen spending and production soften, but job gains have been robust in recent months showing a strong job market. Powell noted that this allows the Fed to continue on course of hiking rates. The board’s statement specifically called out the Russia-Ukraine war, high food prices, and elevated energy prices as factors impacting inflation.
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Impact on rates
The board is remaining hawkish in their approach to rate hikes. Powell stated that the board believes they are currently in neutral rate territory but will continue to raise rates to moderately restrictive. The market took Powell’s speech as slightly dovish with swap rates contracting across the curve. Expectations for rate hikes have come down since the last FOMC meeting with a peak of 3.25% compared to a peak of 3.77% on June 15 after the previous meeting as seen in the graph below.
The Federal Reserve is attentive to inflation and incoming data. Chair Powell did not give an indication of the magnitude of the next rate hike in September, but claimed the Fed is willing to raise by any amount necessary based on data at the time. The Federal Reserve sees a path toward a soft landing for the United States economy, but the path has gotten narrower and harder to navigate in the past few months. The market is currently pricing in a greater than 62% probability of a 50+ basis point hike at the September meeting. Floating-rate borrowers can expect consistent increases in interest rates in the near term with the Federal Reserve Board focusing on battling inflation.
Chatham focuses on helping our clients hedge their interest rate risk in numerous ways. To follow the developments of the market’s expectations of the forward interest rates visit Chatham Rates or get in touch with one of our advisors today using the form below.
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Transactions in over-the-counter derivatives (or “swaps”) have significant risks, including, but not limited to, substantial risk of loss. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. This material has been prepared by a sales or trading employee or agent of Chatham Hedging Advisors and could be deemed a solicitation for entering into a derivatives transaction. This material is not a research report prepared by Chatham Hedging Advisors. If you are not an experienced user of the derivatives markets, capable of making independent trading decisions, then you should not rely solely on this communication in making trading decisions. All rights reserved.22-0187
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