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By: Josh Cannington, VP - Interest Rate Derivatives
Key topics:
Interest rates are facing some seriously dichotomous dynamics, according to Josh Cannington, VP of Interest Rate Risk at StoneX. Two stories are playing out at once. On the one hand, the Fed is cutting rates and working to keep inflation moving closer to its 2% goal. On the other the marketplace is following a different narrative. Though inflation continues to fall, shelter costs remain sticky. Spot loading rates are becoming more affordable, but longer-term fixed rates are getting more expensive. Both are areas of interest for the returning US President. That makes one of the primary drivers in rate forecasts is Trump., What kind of policies is he proposing, and what kind of inflation – and thereby rate –implications do those policies have?
The Fed’s focus is on the present, says Cannington, as in today’s inflation and today’s employment numbers. Conversely, the marketplace is forward-looking, he says. And, right now, the marketplace is speculating that under Trump’s tariff policies, inflation will only move higher. It is currently too early for the Fed to speculate its course without knowing what policies Trump intends to follow through or when. Without the ability to model out those policies, the details around strategy remain open-ended.
According to Cannington, Trump ran his 2024 campaign partly on his desire to implement tariffs on Mexico, Canada, and China, among other profligate trade partners. The widespread fear of tariffs comes from the belief that as soon as they are implemented on importers, the costs are passed through to the consumer. Some experts are skeptical of a direct pass-through and how inflationary those tariffs end up being.
While Trump’s trade initiatives have given rise to concern among some analysts, the general impulsive nature of his decisions is arguably the most disconcerting to market participants. Trump’s handling of the tariff rollout against two key US allies – Mexico and Canada just two weeks into his second presidency caused confusion and consternation among political and business leaders alike.
Cannington believes Trump is the wild card in the deck, with a mind that, can and does - change with little warning. He says a tweet that changes the story and the policy could come any day, making it difficult for the Fed to forecast the future and model out the what-ifs. Until policy is put in place, laws are being passed and tariffs are being applied, can anyone make an educated guess about what is going to happen next?
Adding to the already complicated situation is the power dynamic between Federal Reserve Chairman Jerome Powell and President Trump that could have possible future economic repercussions. Powell has been described as not wanting to “bend the knee” to Trump, and for his part, Trump wants to see the power to set rates sit with his office. Trump will be able to nominate the new Fed chair after Powell’s term ends in 2026. It sounds like the President wants to have a heavy hand and rate-setting policy as well, and that is a major risk for which markets need to account.
A worst-case scenario may very well be a situation in which Trump’s tariffs are implemented and subsequently turn out to be inflationary. Pushing a cut in rates to zero in that scenario would carry significant ramifications.
---Written by: Dan Morales
---Expert: Josh Cannington, Vice President of Interest Rate Risk, Fionna Cincotta, Senior Market Analyst
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