The highly anticipated Federal Open Market Committee (FOMC) meeting has commenced today and will conclude tomorrow. And tomorrow, we’ll all receive news of a 75 basis point (0.75%) Fed rate hike.
Right?
Well, that’s what the market expects. Recent available data shows the the odds of a 75 bps hike are roughly 80%, with a 20% chance that the Federal Reserve moves one full percentage point higher. Those are some pretty strong odds in favor of a 75 basis point move.
With this scenario priced into the market, some interesting commentary has begun to emerge about “what if” scenarios. If the Fed indeed takes the view that shocking the market is necessary to force compliance with its stance — that it needs to have an iron fist when it comes to inflation — then what will happen?
Let’s dive in and play out a thought exercise for the upcoming Fed rate hike.
Would a 100 Basis Point Fed Rate Hike Crash the Market?
To be sure, the most recent consumer price index (CPI) reading we got was much hotter than expected. Indeed, with energy prices coming down, not many economists foresaw inflation actually ticking higher. Most notably, core inflation (ex-energy and food) came in much higher than expected. This is the Fed’s preferred measure and could induce concerns that not enough is being done.
Many pundits calling for a 100 bps move are doing so on the basis of the fact that 100 bps cuts took place following the pandemic. The logic is simple: If the Fed can cut by a full percentage point, what’s stopping a 1% move to the upside?
That’s a fair argument.
In such a scenario, it appears likely that valuations will get hit as bond rates soar. To a certain degree, the bond market is now pricing in a faster rate of hikes via the yield curve. Whether it’s an extra 25 basis points at this meeting or extra heft on future hikes this year, the bond market seems to think more aggressive rate hikes are in store. Today, the 2 Year U.S. Treasury Bond came a hair shy of 4%. That’s the highest it’s been since before the financial crisis.
We’re likely going to see a 75 basis point move tomorrow. However, if the Fed feels the need to really put pressure on asset prices across the board, it could be a “look out below” day in the market tomorrow. We’ll have to wait and see.
On the date of publication, Chris MacDonald did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
