Concerns that the U.S. might be approaching a recession have traders expecting interest rate cuts from the Federal Reserve this year, despite policy makers’ projections from March that signal otherwise.
While the median estimate from Fed policy makers points to the likelihood that rates will need to end the year slightly above where they are now, traders see just a 0.1% chance of that happening as of Friday. Instead, they’re pricing in a 99.9% likelihood that the fed-funds rate target will be at or below its current range of 4.75% and 5% by December.
The divergence reflects “a difference in baseline scenarios,” FHN Financial macro strategist Will Compernolle said via phone this week. “For the Fed, the banking sector is fine and inflation is too high. For markets, the baseline scenario is that a recession is going to happen. At some point, one of those baseline scenarios has to win out.”
The Fed and the market have been at odds repeatedly over the course of the rate-hike cycle that began in March of last year.
Traders now generally expect the fed-funds rate to end the year below the Fed’s median forecast of 5.1%, with the greatest likelihood centered around three-quarters of a percentage point lower than what policy makers think is appropriate. roughly. That rate outlook has shifted a bit since Thursday and Wednesday, when traders were factoring in a full percentage point lower.
Friday’s data showed that the U.S. added a robust 236,000 new jobs in March, defying the Federal Reserve’s hopes for a big slowdown in hiring as central bank struggles to tame high inflation. Economists polled by The Wall Street Journal had expected 238,000 new jobs.
After the report, traders priced in a 67% chance of a quarter-point hike by the Fed in May, followed by an overwhelming likelihood of either a pause or rate cut in June.
Read: Why Good Friday complicates how stock-market traders will digest March jobs report
Treasury yields jumped after the March jobs report, with the policy-sensitive 2-year rate TMUBMUSD02Y, 3.965% rising 15.2 basis points to 3.97% — its biggest one-day advance in almost two weeks. U.S. stock exchanges are closed for the Good Friday holiday, while the U.S. bond market is open for a half day.
