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Market Update

Fed hikes 25 bps, signals possible rate pauses

May 3, 2023


On Wednesday, May 3, 2023, the Federal Open Market Committee (FOMC) voted unanimously to raise the fed funds rate by 25 basis points to a target range of 5.00% - 5.25%. The FOMC noted that ongoing economic developments will determine if additional hikes are necessary.

Key takeaways

  • The FOMC voted unanimously to raise their target range to 5.00% - 5.25%. This totals cumulative hikes of 500 bps in this tightening cycle. The Committee remains consistent with their goal of returning inflation to the 2% target over the long-term.
  • Chair Powell noted that ongoing economic developments will help the FOMC determine if additional hikes are necessary. The Committee would like to see a few months of data to show if their policy is restrictive and leading to softening economic conditions.
  • The FOMC’s inflation outlook currently does not support rate cuts in 2023. The Committee is expecting modest growth in the economy through 2023 and not a recession which, if it plays out, would not lead to rate cuts.

FOMC recap

The FOMC voted unanimously to increase the fed funds target range by 25 basis points to a range of 500-525. Tighter credit conditions in the U.S. are likely to weigh on economic activity, which may lead to less hikes than previously expected. The Committee views the credit tightening due to the recent bank failures to be equivalent to interest rate hikes. Their goal is to bring inflation to 2% and they believe it will take some time at a restrictive policy level to achieve this goal. Chair Powell also noted that the FOMC’s inflation outlook currently would not support any rate cuts in 2023 and would need to see data that shows softening of labor market conditions and demand prior to any rate cuts. The current range is where the Committee's median projection for end of 2023 was set at the March meeting. This indicates that the FOMC expects rates to remain flat for the rest of the year unless any economic data suggests a pivot.

Impact on rates

As of end of day, rates are now moderately lower than prior to the Fed’s announcement, with 2-year Treasury yields down 16 bps from prior to the meeting to 3.81% and 10-year rates at 3.34%. The market is now pricing in peak Term SOFR of 5.07% on June 1, 2023, and rate cuts by the Fed this year with Term SOFR bottoming out at 2.56% on November 1, 2025. Cap pricing is in line or moderately lower compared to after the last Fed meeting, depending on the term and strike rate of the cap.

As of 4 p.m. ET on May 3, 2023

The market is currently pricing in rate cuts throughout 2023 starting in the next few months. The cuts are more dramatic since last meeting dipping down to close to 2.50% before leveling off over the long run.

Moving forward

The FOMC will be following economic data releases between now and the June 14 Fed meeting. At the time of this writing, the market is pricing an 89% probability of a rate pause for that meeting. Chair Powell has remained consistent in his message that the Committee is focused on returning inflation to 2%. Though the market is currently projecting multiple rate cuts in 2023, the FOMC is not, leading to more diversion of expectations.

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