Fed Hike After A Long Pause ?

The Federal Reserve rarely raises rates again after such an extended pause, but it's not unprecedented. Despite this, the current indicators suggest a higher likelihood for the next move to be an increase in rates.

Since its meeting in July, the Fed hasn't made any changes to interest rates. However, the market is anticipating significant interest-rate cuts, with about 90 basis points priced in by the end of the coming year.

This current hiatus of approximately 18 weeks aligns with historical patterns for the duration of rate pauses. Analyzing data since 1971, when the Fed funds effective rate remained steady for at least 18 weeks and the last move was a rate hike, there were only five occasions when the Fed increased rates again.

It's challenging to calculate this given the erratic nature of rates in the 1970s and 80s, compared to the more predictable approach established later on by Alan Greenspan.

The past reveals that some rate pauses lasted much longer than the current one. For instance, the longest pause was during 2016, lasting a year within the rate-hiking cycle initiated by the previous Fed Chair, Janet Yellen.

Based on historical trends, the central bank might remain on hold for an extended period, yet its next action could still be another rate hike instead of a cut.

Market sentiments might lean towards pricing in more cuts in the meantime. However, clear signs of an imminent recession would likely be necessary to significantly flatten short-term rate curves.

Profitable trades betting on cuts might require conditions indicative of a profound recession. Conversely, trades with a different direction, especially if they entail limited negative carry (such as December 2024 SOFR out-of-the-money put spreads), seem to have a risk-reward advantage. 

1. Market Expectations for Interest Rate Cuts: The market seems to be anticipating significant interest rate cuts, with approximately 90 basis points priced in by the end of the following year. This suggests an expectation of monetary policy easing.
2. Historical Analysis of Rate Pause Durations: An examination of historical data indicates that pauses in interest rate changes for at least 18 weeks have occurred before a subsequent rate hike by the Federal Reserve. However, this analysis can be complex due to the volatility of rates in the 1970s and 1980s compared to more stable periods later on.
3. Length of Rate Pauses: The current pause in rate changes is relatively short compared to some historical instances. The longest pause before a rate hike occurred in 2016 during the rate-hiking cycle initiated by Janet Yellen.
4. Implications for Future Rate Changes: Past trends suggest that the Federal Reserve might maintain this pause for an extended period before considering another rate hike rather than a cut. This projection indicates that the market might continue to price in more cuts, but a clear indication of an impending recession could significantly influence rate curves.
5. Trade Implications: Trades banking on rate cuts might require an anticipation of a deep recession to be profitable. Conversely, trades that anticipate rate hikes, especially if they have limited negative carry, may have a more favorable risk-reward ratio.
6. Specific Trade Example: Mention of December 2024 SOFR out-of-the-money put spreads suggests a trade strategy with limited negative carry that could potentially benefit from a different market direction, possibly betting against rate cuts.