As optimism grows over a potential end to the conflict involving Iran, US Treasury traders concluded the week by scaling back their bets on a Federal Reserve interest rate hike in early 2026.
On Friday afternoon, trading in interest-rate swaps indicated that traders now see a 100% probability of a 25-basis-point hike by January 2027, a shift from their previous expectation of a hike occurring this year. This change in outlook followed data showing a relatively moderate acceleration in US core inflation last month, a drop in US crude oil prices below $85 per barrel, and remarks from US President Donald Trump claiming progress toward a peace deal with Iran.
"Signs of a potential reopening of the Strait of Hormuz and the drop in oil prices have been a key narrative driving the market," said Dhiraj Narula, a US rates strategist at HSBC Securities. "These factors have, to some extent, pushed back the expected timing of a rate hike."
Traders now assign roughly an 80% probability of a rate hike by the end of this year. This stands in contrast to market expectations for multiple rate cuts that prevailed before US and Israeli strikes on Iranian targets in late February. Since those events and the subsequent difficulties for oil tankers transiting the Strait of Hormuz, oil prices have risen, driving an increase in both expected and actual inflation.
Following three rate cuts last year, Federal Reserve officials are likely to hold interest rates steady at their meeting next week, which will be the first chaired by Kevin Warsh. Consumer price data released this week showed that while inflation accelerated in May, the pace was more moderate than some had feared.
While the data reinforced market bets that the Fed will eventually need to raise rates, it also alleviated some pressure for immediate action. This contributed to a slight rise in US Treasury prices over the week.
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