Wall Street leans toward only two Fed rate hikes before year-end

A majority of Wall Street’s top banks now expect the Federal Reserve to raise interest rates only two more times by the end of the year, a downgrade of earlier expectations that may presage the Fed’s own revised view of its path when it meets in less than two weeks.

A Reuters poll shows the median forecast of 17 primary dealers that deal directly with the Fed is for a federal funds rate of 0.875 percent by the end of the year, reflecting the mid-point of the range for two key rates used by the Fed to adjust monetary policy.

Early in January, not long after the Fed’s first rate hike in nearly a decade, Wall Street dealers expected three rate increases. Members of the Fed, meanwhile, were forecasting a rate consistent with four increases by the end of 2016 back in late December.

The Fed’s projections for its path reflect a slower-than-usual pace for boosting interest rates – but still fall short of the glacial path anticipated by markets.

Short-term rates measures like fed funds futures currently put a 67 percent chance on one increase by the end of the year, according to CMEGroup, as investors largely expect the economy’s weak economic trajectory will stay the Fed’s hand. However, the stronger-than-expected February data on jobs growth seems to have solidified opinions that the Fed is on target for a June rate increase.

“If anything, this should go a long way in reassuring markets that the U.S. isn’t headed towards a recession,” said Gennadiy Goldberg, interest rate strategist at TD Securities in New York.

“This pretty much goes to support the fact the U.S. economy continues to grow and the Fed can raise rates.”

There are 22 primary dealers in Treasury securities; 17 responded to the poll. Of that group, 14 see at least two interest-rate increases by year-end.

The consensus among dealers is that the Fed is on track to raise rates in June, with 14 of 17 believing the funds rate will rise to a midpoint of 0.625 percent. The current range of 0.25 percent to 0.50 percent puts the midpoint at about 0.375 percent.

For a time into January, Fed officials were speaking more hawkishly about expectations, which contributed to the market selloff early in the year as investors feared the Fed would continue to bump up rates as economic data sagged.

For poll results in full, see [L2N16C1LO].

Dealers, by and large, still do not expect the Fed to start reducing its balance sheet before the end of the year. Of the 17 that responded, the median expectation was that it would be 12 months before the Fed will begin paring its balance sheet.

The dealers also have little expectation the Fed will follow in the footsteps of the European Central Bank and the Bank of Japan in moving to a negative-interest-rate policy, with the median expectation for such a move at 10 percent.

Source: Reuters