Trader betting against supersized Fed rate hikes bags $20 million

NEW YORK (BLOOMBERG) – A trader is pocketing big profits for breaking with the pack and placing a sizeable bet that the Federal Reserve will not increase the size of its interest rate hikes.

Last Friday (July 15), someone purchased October futures with a notional value of US$150 billion (S$209.7 billion) that are tied to the Fed’s benchmark overnight rate. The futures price in expected moves at the Fed’s July and September rate-setting meetings.

The trade marked a bet that financial markets had shifted too far by pricing in increasing odds that the United States central bank would raise its key rate by as much as a full percentage point at one of the two meetings.

The wager quickly turned profitable as expectations were dialled back heading into Friday’s close of trading. By day’s end, it was 11.5 ticks higher, amounting to a profit of about US$14.4 million (S$20 million) from the level at which the wager was placed.

Speculation that the Fed would start increasing the size of its rate hikes had surged after Wednesday’s US consumer price index report showed that inflation jumped to another four-decade high, signalling that price pressures have not abated even as the Fed tightens monetary policy aggressively. By Thursday, futures contracts were pricing in high odds that the Fed would increase the rate by a full percentage point at one of the next two meetings.

But policymakers pushed back on that speculation, driving investors to pare their bets. Futures are now roughly pricing in that the Fed will raise its rate by 75 basis points at each of the next two meetings.

Fed members have now entered a self-imposed blackout period for speaking, meaning any shifts in market sentiment will be driven by data released ahead of the July 27 meeting. This includes reports on consumer confidence and manufacturing.