Weekly Musings – CME Fedwatch change for week to November 24, 2023

27 Nov 2023 , 08:45 AM

US FED MINUTES SEALS IT IN FAVOUR OF FED STATEMENT

In the last 4 weeks, the indications coming from the US Fed statement and the indications coming from the CME Fedwatch have been in a volatile relationship. In the first week, the Fed statement led to the CME Fedwatch interpreting the status quo as a signal that rate hikes were done. This led the CME Fedwatch to turn sharply dovish. The hawkish statement of the Fed threw some cold water in the second week as the CME Fedwatch appeared to veer towards the Fed stance. Interestingly, sharply lower inflation at 3.2% in the third week, once again, raised hoped that rate hikes were done and rate cuts could start sooner rather than later. What is the story in the latest week?

In the latest week to November 24, 2023, the Fed has given a rather hawkish note in its minutes. Not only has the Fed hinted at more rate hikes if necessary, but they have also clarified that rate cuts were not even discussed, leave along being considered. This again increased the convergence between the CME Fedwatch and the Fed statement, although it slightly more nuanced. On the upside, the CME Fedwatch appears to agree that 1 rate hike was likely and 2 rate hikes were a possibility. On the downside, the CME Fedwatch continues to hold the view that the Fed will cut rates aggressively in the second half of 2024, a view that is not exactly endorsed by the US Federal Reserve statements. For the coming week, the focus will be on the Q3GDP and the PCE inflation reading for October 2023.

HOW US BOND YIELDS AND DOLLAR INDEX (DXY) MOVED THIS WEEK

The US 10 year bond yields and the dollar index had been on a virtual see-saw in the previous three weeks. However, the latest week to November 24, 2023 was relatively more stable. Despite the Fed minutes being announced with hawkish undertones, the US bond yields did not move too much. It did move up from 4.426% to 4.472%, but that was not too significant. On the other hand, the dollar index (DXY) was absolutely flat at 103.42 levels, compared to 103.44 levels in the previous week. Both these variables normally tend to have a strong influence on the CME Fedwatch. The coming week has some critical data points on the US macros, but let us start off with a recap of the CME Fedwatch for week to 17-Nov.

RECAP – CME  FEDWATCH FOR THE WEEK ENDED NOVEMBER 17, 2023

The previous week to November 17, 2023 saw CME Fedwatch seesaw continue as it once again diverged from the Fed point of view. It does look like the CME Fedwatch is totally intent on charting its own path and the US bond yields and the US dollar index have also broadly supported the CME Fedwatch in that week. In the previous week to November 17, 2023, the CME Fedwatch had almost ruled out any further rate hikes from the current level as can be seen in the last two columns of the probability table below. CME Fedwatch continued to be very aggressive on expected rate cuts in the next calendar year 2024.

Fed Meet	375-400	400-425	425-450	450- 475	475- 500	500-525	525-550	550-575	575-600
Dec-23	Nil	Nil	Nil	Nil	Nil	Nil	100.0%	Nil	Nil
Jan-24	Nil	Nil	Nil	Nil	Nil	Nil	100.0%	Nil	Nil
Mar-24	Nil	Nil	Nil	Nil	Nil	28.0%	72.0%	Nil	Nil
May-24	Nil	Nil	Nil	Nil	12.6%	47.8%	39.5%	Nil	Nil
Jun-24	Nil	Nil	Nil	7.0%	32.0%	43.3%	17.7%	Nil	Nil
Jul-24	Nil	Nil	3.9%	20.9%	38.3%	29.0%	7.8%	Nil	Nil
Sep-24	Nil	2.4%	14.5%	31.7%	32.5%	15.9%	3.0%	Nil	Nil
Nov-24	1.3%	8.8%	23.6%	32.1%	23.8%	9.1%	1.4%	Nil	Nil
Dec-24	7.4%	19.0%	29.5%	26.3%	13.6%	3.8%	0.4%	Nil	Nil

Data source: CME Fedwatch

There were 2 main triggers for the CME Fedwatch in the week to November 17, 2023. Let us see how Fed talk and consumer inflation impacted the CME Fedwatch.

• To begin with, there were a slew of speeches by Bowman and Barr, and both the speeches broadly aligned with the Fed perspective given by Jerome Powell. An important macro indicator was the spike in API crude inventories in the US which led to a sharp fall in the global oil prices and reduced the risk of energy inflation. It was an indication that inflation could stay lower and made CME Fedwatch more dovish.

   

• The big data point for the CME Fedwatch during the week to November 17, 2023 was the October consumer inflation, which fell by 50 bps MOM at 3.2%. Surprisingly, the Fed was not mighty impressed as it only takes the inflation back to the levels it was in June and July 2023. Also, at 3.2%, the inflation is still a good 120 bps away from the eventual Fed target of 2%. It is still the last mile that is proving tough; but the CME Fedwatch looked convinced that the focus will now be on capping rates.

The week to November 17, 2023 was once again a yoyo week when the CME Fedwatch once again diverged further from the Fed stand on the trajectory of rates.

 

CME FEDWATCH IN THE LATEST WEEK TO NOVEMBER 24, 2023

The latest week to November 24, 2023 saw CME Fedwatch once again seesaw. The shift was a little more nuanced this time around. Rate hike expectations were back, albeit with much lower probabilities. However, rate cut expectations of the CME Fedwatch have not changed much and that is where the dichotomy is still visible. This time around, the CME Fedwatch appears intent on charting its own path; partially if not fully. Let us look at the story that is coming from the probability chart of CME Fedwatch.

Fed Meet	375-400	400-425	425-450	450- 475	475- 500	500-525	525-550	550-575	575-600
Dec-23	Nil	Nil	Nil	Nil	Nil	Nil	95.5%	4.5%	Nil
Jan-24	Nil	Nil	Nil	Nil	Nil	Nil	87.6%	12.0%	0.4%
Mar-24	Nil	Nil	Nil	Nil	Nil	21.0%	69.5%	9.2%	0.3%
May-24	Nil	Nil	Nil	Nil	8.1%	39.7%	46.3%	5.8%	0.2%
Jun-24	Nil	Nil	Nil	4.0%	23.8%	43.0%	26.1%	3.0%	0.1%
Jul-24	Nil	Nil	2.2%	14.7%	34.1%	33.9%	13.3%	1.4%	Nil
Sep-24	Nil	1.3%	9.7%	26.3%	34.0%	21.8%	6.3%	0.6%	Nil
Nov-24	0.7%	5.7%	18.4%	30.4%	27.6%	13.6%	3.3%	0.3%	Nil
Dec-24	4.7	14.5%	26.7%	28.4%	17.9%	6.5%	1.2%	0.1%	Nil

Data source: CME Fedwatch

For the week to November 24, 2023, there were 3 main factors that had an impact on the extent of convergence between the CME Fedwatch and the Fed stance.

• The first big data point in the US, influencing the CME Fedwatch in the week was the detailed publication of the FOMC (Federal Open Markets Committee) minutes. As is the practice, the Fed announced the minutes 21 days after the Fed meet. The Fed statement was more hawkish than originally imagined and the Fed also clarified that rate cuts were not even being discussed, leave along being considered. That led to a greater convergence between the CME Fedwatch and the Fed stance during the week.

   

• The big decisive factor in the week was the sharp spike in the API crude oil stocks in the US. Against market expectation of 1.467 million barrels of crude, the actual API inventories turned in at 9.047 million barrels of crude. This was a major dampener for oil prices which fell to $80/bbl, but that also reduced inflation expectations and lowered the probability of a rate hike.

   

• Another important data-point this was the preliminary release of the Atlanta Fed GDP-The fourth quarter GDP estimate was expected to be 2%, but the first estimate has come in at 2.1%. However, this is still likely to be sharply lower than that the 4.5% plus GDP growth rate in the third quarter. That keeps recession fears floating in the US economy.

On the CME Fedwatch front, the big story for the week was the Fed minutes. The broad message from the Fed is that it is not done with rate hikes and rate cuts will not be discussed for now. We just need to await more data points for now.

TRIGGERS FOR CME FEDWATCH TO TRACK IN WEEK TO DECEMBER 01, 2023

There are 3 major triggers for the coming week, likely to impact CME Fedwatch. Here are the key factors to watch in the coming week to December 01, 2023. 

• The big data point in the US, which will influence the CME Fedwatch in the week to December 01, 2023 will be the announcement of the second estimate of Q3-GDP for calendar 2023. It is expected to be higher by 4.9% on a yoy basis and 3.5% on a MOM basis, which is broadly in line with the first advance estimate for Q3-GDP. For now, it may drive away any slowdown concerns in the economy.

   

• Another important data-point this week will be the all-important PCE inflation. PCE inflation (personal consumption expenditure) based, is the key determinant of the Fed stance. It prefers the PCE inflation over the consumer inflation. The PCE inflation is expected to fall from 3.4% in September 2023 to 3.1% in October 2023. That would be in line with the trend in the consumer inflation. That should obviate the need for any rate hikes in the immediate future as long as the journey is towards 2% mark.

   

• On Friday, the Fed chair, Jerome Powell is expected to speak where the market will await his indications on the Fed stance. One challenge that Powell will have would be to explain the disconnect between the Fed’s hawkishness and the long term direction of interest rates. The sharp dichotomy of the CME Fedwatch from the Fed stance on rates is also a signal that different views are starting to emerge in the market. The markets will obviously expect a lot more clarity from the Fed on what intends to do; and who better than Jerome Powell to provide that insight.

On the CME Fedwatch front, the big story in the coming week would be the PCE inflation and if it maintains its falling trajectory, it looks like the CEM Fedwatch may have finally scored some brownie points. We have to wait and watch. 

CME FEDWATCH VS FED STANCE: VOLATILITY IN DICHOTOMY

In the last few weeks, there has have been weekly change in the extent of dichotomy between the CME Fedwatch and the stance of the Federal Reserve. It is still not clear, what is more reliable but some broad trends are emerging as we compare the CME Fedwatch and the Fed stance.

• On the upside, there appears to be a consensus emerging. The Fed has hinted at the likelihood of one rate hike of 25 bps and a possibility of 2 rate hikes. That appears to be the broad view of the CME Fedwatch too. Of course, the CME Fedwatch has assigned numerical probabilities and that can keep shifting. But there appears to be a broad consensus on the peak terminal rates now.

   

• The difference is on the downside. While even the Fed has admitted to two rate cuts of 25 bps each by end of 2024, the CME Fedwatch is factoring in 4-5 rate cuts of 25 bps each. That sounds quite aggressive at a time when the actual inflation is still 120-140 bps away from the Fed target of 2%.

At the end of the day, it will depend on how the Fed interprets the data. For now, it is preferring to err on the side of caution. That looks unlikely to change substantially.