Key facts
- Wall Street is abandoning its previous expectation of two Federal Reserve rate hikes by the end of 2026.
- Market odds now favor a 69% chance of the Federal Reserve holding rates steady in September.
- Recent data indicates softening consumer demand, with retail sales contracting by 0.6% in July.
- Inflationary pressures are easing, as evidenced by July's CPI at 3.4% year-over-year and a downward trend in PPI.
- The US labor market showed weakness in July, with a reported loss of 23,000 non-farm jobs.
Wall Street's outlook on Federal Reserve interest rate policy has shifted significantly, with analysts now moving away from expectations of further rate hikes. As recently as a few weeks ago, investors were pricing in two Federal Reserve rate increases before the end of 2026, and a September hike appeared highly probable. However, a series of recent economic data releases has altered these calculations.
Market probabilities now indicate a 69% chance that the Federal Reserve will maintain its current interest rate in September. The 2-year Treasury yield, a key indicator often mirroring the Fed's policy rate, has decreased by approximately 20 basis points since July 23. Furthermore, markets are now anticipating only a single rate hike by the Fed's December meeting.
Several factors have contributed to this dovish pivot. Firstly, retail sales unexpectedly declined by 0.6% in July, suggesting a potential softening in consumer demand that could ease inflationary pressures. Secondly, July's inflation data showed a year-over-year increase of 3.4%, aligning with expectations and continuing a downward trend from previous months. This cooling inflation allows the Fed to adopt a less hawkish stance, as interest rates are a primary tool used to combat rising prices.
Additionally, producer inflation, measured by the Producer Price Index (PPI), also showed a downward trend, hitting 4.7% year-over-year. Finally, non-farm payroll growth turned negative in July, with the economy losing 23,000 jobs. A cooler job market typically leads to less wage growth and reduced overall demand, further diminishing inflationary pressures.