Markets are fully priced for a rise in interest rates of 75 basis points from the Federal Reserve, with futures showing a 20% chance of a full percentage point
Shares slipped and the dollar firmed on Monday as investors prepared for a packed week of central bank meetings which will see borrowing costs rise globally, with the chance of a super-sized hike in the United States.
Markets are fully priced for a rise in interest rates of 75 basis points from the Federal Reserve, with futures showing a 20% chance of a full percentage point.
They also indicate a real chance that rates could hit 4.5% as the Fed is forced to tip the economy into recession to subdue inflation.
Asset performance during this Fed tightening cycle is very different from the norm for other rate hike episodes, said David Chao, a global market strategist at Invesco.
Usually, the Fed tightens when the economy is thriving and most assets do well. However, most assets have suffered this time, perhaps due to the surge in inflation and abrupt policy change, he said.
Trading was thinned on Monday with British markets closed for Queen Elizabeth II’s state funeral, but Europe’s STOXX index slid 0.5% to its lowest level in two months, dragged down by tech stocks.
MSCI’s broadest index of Asia-Pacific shares outside Japan, fell 0.6%, continuing to set new two-year lows, also hurt by declining tech stocks. S&P 500 futures dipped 0.67%, while Nasdaq futures fell 0.83%.
As well as the specific rate hike, investors will be watching Fed members’ “dot plot” forecasts for rates, which are likely to be hawkish, putting the funds rate at 4-4.25% by the end of this year, and even higher next year.
That risk saw two-year Treasury yields surge 30 basis points last week alone to reach the highest since 2007 at 3.92%, so making stocks look more expensive in comparison and dragging the S&P 500 down almost 5% for the week.
Treasuries are not yet trading, as both Japan and Britain have public holidays, but euro zone borrowing costs edged higher, with the short-dated yields not far off their multi-year highs.
It is not just in the U.S. that interest rate rises are expected. Most of the banks meeting this week – from Switzerland to South Africa – are expected to hike, with markets split on whether the Bank of England will go by 50 or 75 basis points.
China’s central bank went its own way, though, and cut a repo rate by 10 basis points to support its ailing economy, leaving blue chips up 0.1%.
The other exception is the Bank of Japan, which has shown no sign of abandoning its ultra-easy yield curve policy despite the drastic slide in the yen.