A Contrarian Bet: Will the Fed Raise Interest Rates This Year?
As the Federal Reserve prepares for its next move on interest rates, a small but vocal group of bond traders is making a bold prediction: the Fed’s next move will be to raise rates, not lower them. This contrarian view goes against the prevailing consensus on Wall Street, which expects at least one rate cut this year.
The Jobs Report Sparked a Shift in Sentiment
The January 10 jobs report sparked a sudden shift in sentiment among bond traders. Options linked to the Secured Overnight Financing Rate now suggest a 25% chance that the Fed will raise rates by year-end, according to Bloomberg Intelligence. This is a significant increase from just over a week ago, when a rate hike was not even considered a possibility.
Tariffs and Inflation: The Key to a Rate Hike
The contrarian bet hinges on the idea that President Donald Trump’s policies, including tariffs and immigration restrictions, will trigger a surge in inflation. This, in turn, would force the Fed to raise rates to combat rising prices. Phil Suttle, a former New York Federal Reserve economist, predicts that the Fed will hike rates in September, citing rising wages and the potential for tariffs to boost inflation.
The Fed’s Stance: Cautious but Open to Change
While the Fed has signaled its willingness to cut rates again in the first half of 2025, policymakers have also emphasized their commitment to keeping inflation in check. Chair Jerome Powell has stated that the central bank is not willing to settle for inflation above its 2% target. While a rate hike may not be a likely outcome, the Fed has reversed course before, as seen in 1998 when officials cut rates three times to address a financial crisis, only to raise them again in 1999 to contain inflation.
What It Would Take to Price in a Rate Hike
For the market to seriously consider a rate hike, inflation would need to rise significantly, with headline consumer prices reaching the mid-3% level, according to Tim Magnusson, chief investment officer at Garda Capital Partners. Until then, the Fed is likely to remain cautious, with many economists predicting a pause or even a cut in rates.
Economic Data to Watch
In the coming weeks, key economic data releases will provide insight into the Fed’s next move. These include the Philadelphia Fed non-manufacturing activity report, MBA mortgage applications, and the S&P Global US manufacturing PMI. The market will be closely watching these indicators for signs of inflationary pressures or economic weakness.
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