The Fed is expected to hike rates for the first time since 2023, but markets moved weeks ago. The real question is what comes after today.
KEY TAKEAWAYS
The expected quarter-point Fed hike has already been largely absorbed by financial markets. Treasury yields, mortgage rates, and stocks have been repricing for tighter policy well before the official announcement.
The more important information today will come from the Fed’s statement, projections, press conference, and dissents. Those signals will help markets determine whether this is one hike or the beginning of a longer tightening cycle.
The current inflation picture is heavily influenced by energy, with gasoline and crude prices surging amid renewed disruption around the Strait of Hormuz. That makes monetary policy a particularly blunt instrument for addressing the underlying source of inflation.
Higher rates cannot increase the supply of oil. They reduce inflation pressure by weakening demand through more expensive mortgages, credit cards, business loans, and other forms of borrowing.
The practical impact depends on where someone sits financially. Savers may benefit from higher short-term yields, while borrowers, equity investors, and floating-rate private-credit borrowers face increasingly expensive capital.
MY HOT TAKES
The bond market is leading the Fed, not following it. Today’s official hike matters far less than the sharp tightening in financial conditions that has already occurred.
The Fed is using the wrong tool for the source of the problem because it has no better one. Interest rates can suppress demand, but they cannot repair pipelines, reopen shipping lanes, or produce additional barrels of crude.
A 5% 10-year Treasury fundamentally changes the competition for capital. Stocks, private assets, real estate, and credit all have to justify themselves against a genuinely attractive risk-free alternative.
The biggest risk is policy lag. By the time higher rates meaningfully slow demand, the geopolitical energy shock that triggered the inflation may already have changed dramatically.
Today’s 25 basis points are almost theater compared with the communication that follows. With forward guidance becoming less explicit under Warsh, every phrase, projection, and dissent becomes more valuable information for markets.
You can quote me: “If you own stocks, ask yourself what a company’s future earnings are really worth when a 10-year Treasury pays you 5% to sit still.”
Final fitting. Everything is moving so fast–in my family, at least. My son’s wedding is less than a month away and my family is rushing headlong into an event that has been planned for almost fourteen years–talk about long-term planning. If you know me, you know that I am a fan of the plan. I have spent the better part of my nearly four decades career learning how to plan and be patient. Proper plans only require minor, tactical, ground-level adjustments–most of the time.
Recently, the one hour or so a day that I am able to think about not-markets or not-the-economy, I was pondering what minor tactical adjustments I must make to arrive at my son’s wedding exactly as planned. Part of those adjustments include my final suit fitting coming up just in time–by design. If you have never had a bespoke suit made, let me warn you: it takes lots of patience, and time. From initial measurements to delivery, it can take six months. The patience pays off however, because nothing fits as well as a custom-tailored suit.
Now, if you have ever gone the bespoke route, you know the secret of the last fitting–nothing happens at it. The measuring, the chalk marks, the arguing over a quarter-inch of cuff–all of that was done weeks, if not months ago. The tailor pins a sleeve, nods, and you walk out pretending something important just took place. This afternoon at 2:00 Wall Street time, the Federal Reserve holds its final fitting. The market took the measurements, cut the cloth and sewed the seams weeks ago. Kevin Warsh is just walking out to pin the sleeve.
Let’s look at what’s actually on the rack. The Fed is widely expected to raise its benchmark rate by a quarter point, from a range of 3.50%–3.75% to 3.75%–4.00%. That would be the first hike since July 2023. Futures markets put the odds somewhere between 92% and 95%, pretty much a done deal by Wall Street standards. Some have quipped that a hold would be the biggest dovish surprise at a scheduled Fed meeting on record. A survey of 32 former Fed officials found 29 in favor of a hike. That’s not a debate. That’s a chalk mark.Here’s how you know the suit was cut long ago. The 2-year Treasury yield (the corner of the bond market most sensitive to where traders think the Fed is heading) closed yesterday near 4.66%. That is roughly 90 basis points–nearly a full percentage point–above the top of the Fed’s current range. The bond market isn’t pricing one hike. It’s pricing a Fed with more work to do. The 10-year Treasury touched 5.04% yesterday–its highest level since 2007. And the 30-year mortgage rate is hovering near 6.95%, the highest reading in a year. If you are shopping for a house, this rate hike has already happened. The Fed just hasn’t signed the receipt.
Stocks have been feeling the pins, too. The S&P 500 fell for the sixth time in seven sessions yesterday. That isn’t a crash–it’s a market shifting uncomfortably in a jacket that suddenly feels a little snug across the shoulders. Higher yields make every other investment compete harder for your dollar, and investors have spent the past few weeks quietly repricing for exactly the afternoon we are about to have. When the decision finally lands, a good chunk of the reaction will already be behind us. That is what “priced in” means–the market doesn’t wait for the Fed to act before it acts.
Why is the Fed here? The measurements are hard to argue with. Consumer prices rose 0.4% in August and 3.4% from a year ago. The August jobs report showed 162,000 new jobs when Wall Street expected 53,000–triple the estimate. In July, three Fed officials, including Dallas Fed President Lorie Logan, dissented in favor of a hike. Back in June, half the committee–9 of 18–had already penciled in at least one increase this year. The tailor has been measuring for months, my dear friends.
Now for the quarter-inch of cuff actually worth arguing over. Look inside that inflation number and something jumps out. Core inflation (which strips out food and energy prices) is running at just 2.4%. Energy prices are up 16.3% over the past year, and gasoline is up 27.4%–gasoline alone accounted for more than a third of August’s increase. In other words, the inflation problem is largely a gasoline problem. And the gasoline problem is a Strait of Hormuz problem.
That problem got worse this week. Houthi drones knocked out Saudi Arabia’s East-West Pipeline–the main escape route for moving crude around the Strait of Hormuz–and repairs are expected to take three to five weeks. Oil jumped yesterday, with West Texas crude pushing above $105 a barrel and Brent above $108. This is what I’ve been calling geo-petro-politics in its purest form.
Here’s the uncomfortable part. I’ve said this dozens…AND DOZENS of times–a rate hike can’t fix a pipeline. Higher interest rates don’t pump a single extra barrel of oil. What they do is squeeze demand–your mortgage, your credit card, your local business’s line of credit–until people buy less of everything, including gasoline. It works. Eventually. But it works by making the patient smaller, not by curing the fever.
We have seen this movie before. In July 2008, with oil racing toward record highs, the European Central Bank raised rates to 4.25% to fight energy-driven inflation. By October, it was cutting as the financial crisis swallowed Europe. In 2011, the ECB did it again–two hikes, in April and July, blamed largely on commodity prices. Both were reversed before the year was out. I am not predicting Warsh repeats that history. But it is a fair question to ask: is the Fed tailoring a suit for a body that is about to change shape?
That is why the hike itself is the least interesting thing that happens today. Watch three other things instead. First, the statement. Does the language leave the door open to more hikes, or does it hint at one-and-done? Second, the infamous dot plot (the chart where each Fed official anonymously projects where rates are headed). In June, Warsh declined to submit his own dot and openly questioned the whole exercise, and a Fed task force is now reviewing how the central bank communicates. If the dots look different–or get downplayed–that is a signal. Third, the press conference. At Jackson Hole, Warsh said the Fed may have work to do. Does he say it again?
This matters more under Warsh than it did under his predecessors. He has made no secret that he dislikes forward guidance (the Fed’s recent practice of telling markets in advance where rates are headed). Think of it as a tailor who refuses to show you the pattern. You can see the cloth. You can feel the fit. But you don’t get a sketch of the finished suit. That approach has real merits–markets should think for themselves–but in a week when oil is spiking and the 10-year is flirting with 5%, every word he does say gets weighed twice. And finally, watch the dissents. July had three hawks. A dissent in the other direction today would be the new tell.
The way I see it, there are three ways this afternoon can go. A hawkish hike–a quarter point plus a clear signal of more–would likely push long-term yields right back toward that 5% line. A dovish hike–a quarter point with a wink that this might be it–could spark the classic sell-the-rumor relief rally. And a hold? That would be a historic surprise. The irony is that long-term yields could actually rise on a hold, because the bond market would start asking whether the Fed has the stomach to fight inflation at all.
So what does this mean for you? It depends on which side of the rate you sit on. If you are a saver with cash in a money market fund, a hike means a little more yield–but how long will that last if the Fed ends up reversing course? If you are a borrower, credit card rates and home equity lines reset almost immediately. If you own stocks, ask yourself what a company’s future earnings are really worth when a 10-year Treasury pays you 5% to sit still. And if you own anything tied to private credit, remember that most of those borrowers pay floating rates–every quarter point lands on their interest bill right away.
None of that calls for panic. It calls for knowing your measurements. Check the fit now, while there is still time for a minor adjustment, rather than discovering the problem on the day you actually need the suit.
Here is an interesting twist–the Fed isn’t raising rates today–it’s catching up to a bond market that raised them weeks ago, and the real risk isn’t the hike, it’s cutting the suit for an economy that’s about to lose weight.
My tailor gave me one piece of advice at my first measurement: don’t change shape before the wedding. I intend to listen. The good news is the plan still fits–I will be standing next to my son in a suit that took six months to get right, and nobody will notice the quarter-inch of cuff. Proper plans only require minor, tactical adjustments. The Fed has a plan too. This afternoon, we find out whether the body it measured is the one that shows up.
YESTERDAY’S MARKETS
Stocks fell for the sixth time in seven sessions yesterday, with the S&P 500 down about 0.5%, the Dow Jones Industrial Average down 0.6% and the Nasdaq Composite down 0.8%. The 10-year Treasury yield touched 5.04% during the session, its highest level since 2007, before settling near 5.00%. West Texas Intermediate crude rose 4.2% to $105.70 a barrel and Brent gained 2.7% to $108.55 after fresh Houthi strikes on Saudi Arabia. Bitcoin fell below $75,900 after the Clarity Act failed a Senate cloture vote.
NEXT UP
Retail Sales (August) are expected to have climbed by 0.8% after slipping by -0.5% in July.
At 2:00 PM Wall Street Time, the FOMC is expected to release its policy decision. The committee is largely expected to raise rates, but don’t miss the statement itself which may tell us if this is one and done or the start of a new hiking era. Chairman Warsh’s press conference will start at 2:30 PM Wall Street time–this will either be jam packed with info, or well…a big nothingburger. Wall Street is expecting the latter 😉.