dramatic return of the Fed rate hike expectations: oil price surge pushes the probability of rate hike in October to 35%

The Fed rate expectations have experienced a dramatic reversal, with short-term US Treasury yields breaking away from their anchor amidst surging oil prices. Federal funds futures data now show a 35% probability of at least a 25 basis point rate hike after the October Federal Open Market Committee (FOMC) meeting. Just a month ago, the market was betting on a 35% probability of a 50 basis point rate cut. The 2-year US Treasury yield (US2Y) has returned above 3.9%, reaching its highest level since July. Back in July, the front end of the US Treasury yield curve saw a sharp decline due to weak employment data, starting a steady downtrend that lasted for seven months, a decline that has now been completely wiped out since the events in Iran. Seth Golden, Chief Market Strategist at Finom Group, pointed out in a post that, as seen in 2022, the 2-year US Treasury yield has decoupled from the federal funds rate, with the federal funds futures market increasing bets on rate hikes this year. He stated, "In 2022, it can be said that rate hikes did not have an impact on the consumer economy, which was then and still is now being cushioned by fiscal dominance (government transfers and tax legislation)." He added that the Federal Reserve Chair nominee Kevin Warsh "may push for the use of other tools in the Fed's toolbox to address inflation risks, rather than relying solely on rate adjustments." Meanwhile, Christian Fromhertz of Tribeca Trade Group pointed out that the MOVE index, known as the "bond market VIX index," is surging. The increase in the MOVE index reflects heightened market uncertainty about the path of interest rates. Based on historical experience, this is usually a precursor to more widespread market volatility, making its impact more pronounced. The sharp movements in the MOVE index could be seen as a warning sign of future spikes in the VIX fear index and stock market declines.