‘The economy is still too hot for the Fed’: Chance of June rate hike rises further above 50% after inflation data

As of Friday morning, after the release of April’s personal consumption expenditures index, fed funds futures traders saw a 55% likelihood that the Federal Reserve will lift rates by another quarter of a percentage point in June. That’s up from 51.7% a day ago, and would take the Fed’s main benchmark rate target to between 5.25%-5.5% next month, according to the CME FedWatch Tool.

Financial-market players have been considered the possibility that the U.S. economy is more resilient than thought — that is, less prone to contracting and less sensitive to higher interest rates — even after more than a year of Fed rate hikes. Peter Essele, head of portfolio management for Commonwealth Financial Network, said the PCE report “puts a June hike back in play, perhaps even greater than a quarter percent hike in a last-ditch effort by the Fed to put out the inflationary fire once and for all.”

“The upside surprise to April PCE inflation and strong household spending are stark reminders to markets that, once the debt-ceiling drama fades, the economy is still too hot for the Fed,” said Chris Low, chief economist for FHN Financial in New York.

In a note Friday morning, he said that “trading is choppy now — not surprising until Congress and the President actually raise the debt ceiling — but market expectations are entertaining a 25 basis point June hike as a real possibility compared to even a week ago.”

Meanwhile, fed funds futures traders saw a 50.6% likelihood of a pause in July, with the remaining 49.4% split between the chances of another quarter-point hike or a rate cut two months from now. They also dialed back on their expectations for rate cuts through December.

The policy-sensitive 2-year Treasury yield
TMUBMUSD02Y,
4.605%
jumped to around 4.56% after Friday’s PCE report, heading for its 12th session of advances — which would put it on pace to maintaining its longest streak of advances since January 2018. Other yields also moved higher Friday morning, as did all three major U.S. stock indexes
DJIA,
+1.06%

SPX,
+1.17%

COMP,
+1.76%
as investors absorbed reports of progress in U.S. debt-ceiling talks.