Swissquote: It’s a Hike - and maybe more!
By Ipek Ozkardeskaya, Senior Analyst, Swissquote
The Federal Reserve (Fed) delivered a 25bp hike, pointing to above-target inflation, as widely priced in by analysts, and the dot plot – which Kevin Warsh refused to add his own dot to – hinted that there could be one more rate hike before the year ends. Broader expectations are that we could see three more by mid-next year.
Furious to see his new guy hike rates a few months into the job, “LOWER THE INTEREST RATES FOR THE UNITED STATES OF AMERICA, AND FAST!” cried Donald Trump. I don’t know if this is scripted theatre or if this is real, but with this, the Fed has probably begun a rate-tightening cycle.
The decision triggered a hawkish market reaction. The US 2-year yield spiked to 4.74%, while the 10-year yield hovered around the 5% mark – but overall, the reaction at the longer end of the yield curve was more contained. And tell Trump that that’s exactly what the Fed wanted and NEEDED to do: ease pressure on the longer end of the curve to keep borrowing costs in check.
So I think that yesterday’s decision was a healthy one. Stock markets sure gave a negative knee-jerk reaction. The Dow Jones dropped more than 1%, but the S&P 500 lost less (-0.45%) and the Nasdaq 100 closed the day flat. Semiconductors helped counter losses, as Intel jumped 4% on reports that it is in talks with SK Hynix over producing memory chips in the US.
Futures are in positive territory this morning, also bolstered by a sharp retreat in oil prices yesterday, as Saudi Arabia eased supply fears by offering additional crude to Asian refiners via ship-to-ship transfers off Oman’s Sohar port, while working to restore roughly half of the damaged East-West pipeline’s capacity within days.
Moving forward, attention turns to the Bank of England (BoE) and the Bank of Japan (BoJ), due to decide in the coming hours.
Mixed feelings at the BoE
On one hand, the British economy has printed surprisingly strong growth so far this year – partly thanks to AI-led productivity gains and despite higher energy prices – and has an inflation problem like everyone else. Yesterday’s inflation data were mixed: core and services inflation remained unchanged, but still above the BoE’s 2% inflation target, while producer prices rose more than expected in August. The knee-jerk reaction in sterling was a pullback on softening BoE expectations for an immediate rate hike. The move was amplified by a broad-based rally in the US dollar.
But inflation will certainly rise before it falls in the UK. If nothing else, the energy price cap will rise another 4% in October, with a further increase expected in January if wholesale energy prices remain elevated. The latter supports a hawkish policy stance.
And markets are actually pricing in four – yes, four – rate hikes from the BoE over the next 12 months.
But on the other hand, the UK economy is literally bleeding jobs – the UK has lost around 240’000 jobs since the end of 2024. The country has massive fiscal problems – and investors now demand 5.30/5.40% yield on the 10-year gilt, while the 30-year gilt yield approaches the 6% mark – the highest levels since 1998!
Encouraging news is that the UK’s debt-to-GDP ratio remains stable at a touch below the 100% mark, and AI-led productivity gains could encourage improvement. The bad news is that inflation will continue to bite, and fiscal headaches won’t evaporate overnight – even with AI. That sets the scene for rate hikes.
So again, investors have already baked in four rate hikes from the BoE over the next 12 months – similar to four hikes from the ECB – and we will have a better understanding of how MPC members see the picture. Raising interest rates is a ‘no-brainer’ when faced with rising inflation (as Christine Lagarde said at last week’s presser following the second ECB rate hike this year), but raising rates without having more clarity on the fiscal picture – and how markets will take it – is not what good economists would do. Also, rate hikes in the UK tend to hit households harder because mortgages are fixed for shorter periods, meaning households feel the impact very, very quickly.
As such, I don’t think that we will get a life-changing moment for the UK today. Fiscal measures announced in the Budget will carry more weight for sterling’s value in the medium run, as they will impact the BoE’s assessment of demand and inflation going into the final meetings of the year. Cable will certainly remain in the passenger seat, as the US dollar will continue to define the broad trajectory. In the short run, we could be stepping into a bearish consolidation. In the medium run, Cable remains in a longer-term positive trend above 1.32.
Hike in Japan?
Listening to what Bessent did and said over the past weeks – the co-intervention with the Japanese to reverse yen selling, the infamous words that he is ‘the house’, that he knows what’s up there, and that he has asymmetric information about the BoJ’s policy intentions – I somehow got the feeling that the BoJ would walk the talk and raise rates this week. And beyond the bla bla, I think they don’t have another option.
Imagine if the BoJ didn’t raise rates this week: the yen would collapse faster than I could say ‘collapse’ – even more so as hawkish Fed expectations gained ground.
And everyone knows it. And because the BoJ knows that we know that it knows, what will matter more for the yen’s trajectory is what happens beyond this month’s decision. Is the BoJ ready to hike more? Hike consecutively? Hike until we no longer consider its policy accommodative? Hike until it reaches a neutral rate?
For Japan, roughly 1.5–2% would be a reasonable range to think about for the nominal neutral policy rate, and it would mean one to three more rate hikes after this week’s. The BoJ won’t say that, but it could give hints. And depending on these hints – or the lack thereof – yen traders will decide whether USDJPY deserves to ease below the 150 level, or return above 160 and keep fighting the yen bears with water pistols.
