When Will the Fed Be Done With Its Rate Increases?

The futures market thinks a 4.0% benchmark level might be the central bank’s peak.

A large chunk of investors was shocked to hear Federal Reserve Chair Jerome Powell’s hard line last week on pumping up interest rates to fight inflation. Now the big questions animating Wall Street are: How high will the Fed go, and when will it be done tightening?

Right now, Fed’s target rate band sits at 2.25% to 2.50%. The betting in the futures market is that by next July, it will be 3.75% to 4.0%, its likely top. (The July 2023 contract is the last available on this subject.)

If the Fed delivers another 0.75 percentage point raise in its September meeting, as the futures market overwhelmingly expects, then that brings us to 3.0% to 3.25%. By current reasoning, this means there’s only 0.75 point more to go.

Nobody knows, of course, whether a federal funds rate around 4% will do the job and squelch the inflationary surge that began last year. And while the Fed has indicated 2% remains its desired inflation target, it hasn’t stipulated its peak rate, saying that what it does depends on the data.  

“The magnitude and pace of Fed rate hikes over the next few months is less important than the overall level at which the Fed pauses its rate hiking cycle,” observed David Bahnsen, CIO of the Bahnsen Group investment firm, in a research note. He said he anticipates the Fed to stop at a 3.5% target rate.

Meanwhile, good economic news is “toxic” to the market and leads to selloffs, in the words of Quincy Krosby, chief global strategist for LPL Financial. In a research report, Krosby pointed out that Tuesday’s Job Openings and Labor Turnover Survey announcement—of an above-consensus 11.2 million openings in July—is a result that feeds the narrative of continued wage expansion, thus fueling further inflation.

The good news: According to market sage Mark Hulbert, writing in MarketWatch, stocks rally once the Fed is finished, and often begin their advance before the rate-boosting cycle is completed. (They always fall when rates are increasing.)

In the last rate-increasing campaign ending December 2018, the S&P 500 was flat from its low point to the Fed cycle’s conclusion. Prior to that, for the Fed cycle that ceased in June 2006, the index rose 4%. For all five previous rate-raising cycles before the current one, the average S&P 500 rise from the market low to the cycle’s end was 7.1%.