Friday Update: Markets Now Pricing Fed Rate HIKES as Stagflation Fears Build

Friday Update: Markets Now Pricing Fed Rate HIKES as Stagflation Fears Build

The March FOMC meeting now looks like a distant memory. In just two weeks, the entire rate outlook has inverted.

FedWatch Crosses the Rubicon

The CME FedWatch tool crossed a threshold Friday that has not been seen since this easing cycle began: a 52% probability of a rate HIKE by year-end 2026. This is the first time hike odds have exceeded 50%. Just weeks ago, markets were pricing two rate cuts.

What drove the shift:

• Import prices surged 1.3% in February -- the largest monthly increase since March 2022
• Export prices rose 1.5% -- the biggest gain since May 2022
• The OECD raised its US inflation forecast to 4.2%, far above the Fed's own 2.7% projection
• WTI crude touched $100.04 intraday Friday before settling at $99.64 -- highest close since July 2022
• Brent settled at $112.57, up 4.2% on the day

The critical signal came from Fed Governor Christopher Waller, typically one of the most dovish voices on the FOMC. Waller said the risk of persistent inflation from the Iran war was strong enough to convince him to vote for holding rates rather than cutting -- as he had previously intended. When doves turn hawkish, markets listen.

The 2-year Treasury yield finished Friday at 3.89%, now exceeding the Fed funds rate -- a classic signal that the bond market is pricing tighter policy ahead.

Equities Buckle

• Dow closed in correction territory -- down 10% from its February peak above 50,000
• S&P 500 posted its 5th consecutive weekly loss and worst two-day drop since April
• Nasdaq now down 12.5% from its record high
• S&P 500 down 8.74% from its peak, approaching correction

Recession probability is climbing in parallel: Moody's Analytics at nearly 50%, Goldman Sachs raised to 30%, EY Parthenon and Wilmington Trust above 40%.

The Stagflation Squeeze

This is the classic setup. Inflation running hot from oil, tariffs, and supply disruptions -- while growth deteriorates. The Fed is trapped between its dual mandates with no good options.

The Strait of Hormuz remains the linchpin. Two Chinese COSCO container ships -- the first major carrier attempt since the war began -- were turned back Friday despite China being an Iranian ally. Iran is effectively running a toll operation from Larak Island, and the ~20% of global oil supply that flows through the Strait remains disrupted.

What to Watch

• Iran's formal response to the US 15-point ceasefire proposal is reportedly expected imminently. If it includes any pathway to reopening Hormuz, the entire rate-hike thesis could reverse as quickly as it emerged.
• The 2-year yield vs. Fed funds rate divergence -- historically a reliable leading indicator of the Fed's next move.
• April 6 -- Trump's extended deadline for Iran to open the Strait.

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Have a good weekend!

-- Fi

"The best edge is the one you can actually execute."