- Markets are pricing in higher odds of rate hikes.
- Warsh says Fed will bring inflation down.
- Markets may not get their September hike.
Fed fund futures show increased likelihood of at least one rate hike this year after Federal Reserve Board Chair Kevin Warsh's remarks at the Jackson Hole symposium that were seen as hawkish, but at least one analyst isn't convinced.
The markets are pricing in a 54% chance of a September rate hike, up from 34% before the speech, noted ING's Padhraic Garvey, regional head of research.
Warsh said he "would be hard pressed to describe broad financial conditions as restrictive," and the panel "must be confident that underlying inflation is moving to our objective, clearly and at sufficient speed. Otherwise, we have work to do."
Inflation still high
The Fed, for now, should focus on inflation since it is running above target, he said. "While this summer's [personal consumption expenditures] and [consumer price index] readings were better than expected, they do not tell me that underlying trends have meaningfully improved."
Warsh said, "short-term interest rates are the predominant tool to achieve the dual mandate. Unconventional policies to spur economic activity may suit genuine crises but should otherwise be used sparingly, if at all."
Dissenting opinion
Michael Arone, chief investment strategist at State Street Investment Management, believes the markets are overreacting. "The markets have concluded a rate hike is likely in September. I'm not sure that's what we're going to get."
Warsh "has given himself plenty of flexibility," Arone said. Inflation is being pushed up by war, supply chain issues and shocks, which won't be permanent, he said, while some facets of inflation have stabilized.
"The economy is not firing on all cylinders," he added, noting the last employment report showed jobs lost, retail sales fell and housing remains sluggish.
Warsh played both sides in his speech, Arone said, noting inflation is coming down but not fast enough. "This provides context for being on pause a while longer."
As such, he added, "bonds will continue to be a challenge."
More of the same
The speech offered "no major deviation from his prior comments before Congress and at the July FOMC press conference," said Luis Alvarado, co-head of global fixed income strategy at Wells Fargo Investment Institute.
A rate hike could come in September, depending on economic data received days before that meeting, he said.
"We remain favorable on short-term fixed income and still believe the Fed will most likely hike once in 2026 and once in 2027," Alvarado added.
Clear message
"Warsh was successful in reestablishing confidence," said Larry Holzenthaler, senior portfolio manager at Catalyst Funds. "He came across as very focused on inflation and bringing it back in line with the Fed's 2% target."
Immediate market reaction saw "short-term rates higher while long term rates were marginally lower," he noted. "Investors should clearly expect that the Fed is going to raise rates if it needs to."
Holzenthaler said fixed-income investors could avoid volatility with "assets with less sensitivity to rising rates like corporate credit — high-yield corporates, senior floating rate corporate loans, as an example."
With Warsh's aversion to forward guidance or providing "a specific reaction function (because the markets and the economy are always in a state of flux)," Colbert said, "it seems clear he would be willing to raise rates if the committee also concurs there hasn't been enough progress made to infer or see a straightforward path today towards a 2% PCE in within a relatively short period of time (we'd guesstimate that to be 12 months plus or minus)."
In his speech, Warsh noted forward guidance was adopted during the financial crisis, but added, "I believe that the practice has overstayed its welcome." He said guidance "should be limited and circumscribed," or "it risks trading ambiguity in the name of clarity."
With inflation still sticky and Warsh seeing full employment, "we think this clearly tilts the Fed to at least a rate hike before the end of the year to ratify (the Fed's) inflation fighting credentials," Colbert said.
"We are entering a new era of monetary policy, one defined by less signaling, greater emphasis on real-time data, and a willingness to rethink economic first principles as AI reshapes the economy's productive capacity," said Jeffrey Roach, chief economist at LPL Financial. "The distinctly hawkish speech gave support to the dollar as the chairman appears comfortable keeping policy higher for longer."
"Warsh untangled much of the ambiguity left by the
Sociate Generale sees 25 basis point hikes in September and December and March 2027, "although the final hike faces a meaningful risk of not materializing," said Jan Groen, chief U.S. economist at the firm.
