FOMC: The rate hikes begin
Hedging and Capital Markets
Real Estate | Kennett Square, PA
The Federal Open Market Committee (FOMC) raised rates 25 basis points in its first hike since 2018 as inflation reaches levels not seen since the early 1980s. The planned pace of rate hikes is aggressive with seven hikes in total slated for this year along with balance sheet reduction to begin in the near future.
- The Federal Reserve raised rates by 25 basis points and set expectations for another rate hike at each of the six remaining meetings in 2022.
- Headline CPI was up 7.9% year-over-year in February 2022 with the Fed “acutely aware of the need to return the economy to price stability”.
- No moves on the balance sheet at this meeting, but the FOMC expects to begin balance sheet reduction at a coming meeting.
- Projected GDP growth for 2022 down to 2.8% vs. 4.0% in December, while projected core PCE inflation for 2022 is 4.1% vs. 2.7% in December.
Wednesday’s FOMC meeting resulted in the first rate hike of this cycle since the Federal Reserve cut rates to zero during the outbreak of COVID-19 in March 2020. The Federal Open Market Committee (FOMC) voted 8-1 to increase rates by 25 basis points to a target range of 0.25 - 0.50 percent, with James Bullard dissenting and voting for a 50 basis point hike. In addition to the hike, the committee forecasts six additional hikes throughout the year and left the option for 50 basis point hikes at future meetings open if deemed necessary. There was no change to the Fed’s $9T balance sheet, but the FOMC announced it is close to agreeing to a plan with an announcement on balance sheet policy to come as soon as the May meeting.
Price stability has taken center stage in the Fed’s dual mandate as inflation continues to climb with the year-over-year increase in the consumer price index accelerating each month. Their current projections for the personal consumption expenditures price index is 4.3% year-over-year growth in 2022, 2.7% in 2023, and 2.3% in 2024. This compares to December’s projection of 4.0% in 2022, 2.2% in 2023, and 2.0% in 2024. Consumer price inflation has been increasing at an accelerating rate through February 2022, and those data sets do not include any economic disruptions resulting from the war in Ukraine, which are likely to increase inflationary pressures going forward.
Path of interest rates
The newest dot plot pencils in seven rate hikes for a target rate of 1.9% in 2022, rising to 2.8% in 2023 and 2024, followed by a decrease to 2.4% in the longer run. Fed Funds futures align closely with the dot plot in 2022. However, the market is pricing in less hikes going forward with futures implying a 2.6% rate in 2023 and 2.14% in 2024.
The spread between 5-year Treasuries and 10-year Treasuries briefly inverted during the afternoon as well, ending the day at 0.6 basis points. In addition to the movement in the belly of the curve, 30-year Treasury yields ended down on the day. This inversion in the SOFR forward curve and Treasury yields, and decrease in 30-year yields, shows the bond market pricing an economic slowdown and ultimately a reversal in monetary policy several years down the road.
The current balancing act for monetary policy is cooling inflation without negatively impacting economic growth. While the Federal Reserve can’t control supply chains, tightening financial conditions may cool off an economy that is running too hot with inflationary pressures. One notable comment from Jay Powell’s press conference was that the labor market has tightened “to an unhealthy level”. While increasing wages benefit the economy, inflation expectations may become entrenched and lead to a wage-price spiral with a self-reinforcing tendency to further boost future inflation expectations. This comment on labor market tightening is notable in the Fed’s approach to monetary policy as they are now taking the stance that both parts of their dual mandate – inflation and employment – are running too hot. Temporary softness in one of these metrics would likely not be enough for a reversal in hawkishness unless major deterioration occurs.
Looking forward, the Federal Reserve has to handle the balancing act of tightening monetary policy to cool excessive inflation without hampering an economic recovery following the major shock the world felt from COVID-19. Supply chains remain strained with global conflict creating risks for more disruption.
Want to learn how monetary policy is affecting cap pricing?
Contact an expert.
Chatham Hedging Advisors, LLC (CHA) is a subsidiary of Chatham Financial Corp. and provides hedge advisory, accounting and execution services related to swap transactions in the United States. CHA is registered with the Commodity Futures Trading Commission (CFTC) as a commodity trading advisor and is a member of the National Futures Association (NFA); however, neither the CFTC nor the NFA have passed upon the merits of participating in any advisory services offered by CHA. For further information, please visit chathamfinancial.com/legal-notices.
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.22-0066
Our featured insights
Bank of England continues with a 50 bps rate hike
On 22 September, the Bank of England (BoE) voted five to four to raise the U.K. base rate by 0.50% to 2.25%. The voting committee’s newest member, Swati Dhingra, voted for a lower 0.25% hike while the remaining dissenters voted for a higher 0.75%. While the hike matches the BoE’s largest ever...
Fed remains steadfast to their rate hikes
On Wednesday, September 21, the Federal Open Market Committee (FOMC) voted unanimously to raise the federal funds target range by 75 basis points to 3.00–3.25%. This rate hike is guided by their long-term goal of stabilizing prices while simultaneously ensuring maximum employment. The Fed is...
Chatham's Q4 2022 outlook: Inflation, market volatility, and LIBOR transition
Watch Chatham's Managing Partner and Chair, Amol Dhargalkar, discuss key trends for the upcoming quarter like inflation, market volatility, and LIBOR transition.
Bailey enacts biggest rate rise since 1995
On August 4, the Bank of England (BoE) voted eight-to-one to raise the U.K. base rate by 0.50% to 1.75%, with the lone dissenter voting in favour of a more modest 0.25% hike. This was the sixth straight hike by the BoE and the first 0.50% hike since it became independent from the U.K. government...
FOMC continuing course with large rate hikes
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...
In Commercial Property Executive, Robert Mangrelli discusses how the capital markets are reacting to higher interest rates
In a Q&A with Commercial Property Executive, Robert Mangrelli examines how the Federal Reserve's recent interest rate hikes are changing the landscape of commercial real estate's capital markets.
Bank of England base rate hiked for fifth consecutive meeting
On 16 June, the Bank of England (BoE) voted six to three to raise the U.K. base rate by 0.25% to 1.25%, with all three dissenters voting in favour of a 0.50% hike. The hike represents the fifth straight hike by the BoE since they became the first major central bank to begin monetary tightening....
FOMC frontloading rate hikes to battle inflation
On Wednesday, June 15, the Federal Open Market Committee (FOMC) voted 10 to 1 to raise the federal funds target range by 75 basis points to 1.50%-1.75%. This is the biggest rate hike by the Federal Reserve since 1994. They are also currently projecting seven more interest rate hikes in 2022 for a...