Market Braces for Surprise Rate Hike! Fed Decision Eve Rate Futures Open Interest Hits New High

Bets on the Federal Reserve's (Fed) benchmark interest rate futures have surged to a historic high, showing that traders are preparing for the possibility of the Fed launching a rate hike on Wednesday (29th).

The Fed is scheduled to announce its monetary policy decision at 2 PM Eastern Time on Wednesday (2 AM Taipei Time on Thursday). The open interest in federal funds rate futures, which will settle after the rate decision, has surpassed the previous record set by the October 2024 contract. At that time, the market was most uncertain about the outcome of the Fed meeting.

According to CME Group data, as of last Friday, the open interest in related contracts reached 909,714, and on Monday, it further climbed to 967,136, setting a new historic high.

This reflects the rare divergence in the market regarding the Fed's next move. As is customary, the market usually reaches a high degree of consensus on the decision before the meeting, but as of Tuesday evening, traders still believed there was approximately a one-in-three chance that the Fed would announce a 1-code (25 basis points) rate hike, with the rest betting on rates remaining unchanged.

The market's uncertainty and mixed economic data, as well as the change in Fed leadership, are to blame. New Fed Chairman Kevin Warsh advocates abandoning the practice of previous chairs releasing policy signals in advance, known as "forward guidance," and no longer guiding market expectations in advance.

Warsh has repeatedly emphasized that the Fed must bring inflation pressure, which has been above the 2% target since early 2021, back to target levels. However, considering the drop in energy prices during the US-Iran ceasefire last month, which has eased inflation pressure, along with slower job growth, it may give decision-makers reason to postpone the rate hike until the September meeting.

R.J. O"Brien & Associates derivatives broker Alex Manzara said, "This contract is almost reflecting the probability that the market is facing whether the Fed will raise rates or remain unchanged."

He noted that in the past, the Fed rarely surprised the market, so before the meeting, the price of federal funds rate futures usually only deviated from the expected result by 2 to 3 basis points. "Now, futures prices are beginning to reflect uncertainty, which is generating more hedging demand," he said.

CNBC analysis pointed out that Warsh still has at least three reasons to choose to remain unchanged this week: first, he himself has not yet agreed with the rate hike argument; second, a rate hike could weaken the significance of his establishment of a policy reform group; and lastly, this move could draw him into the political struggle between the Trump administration and the Fed.

CNBC believes that Warsh will ultimately have to push for the first rate hike during his term, but for this week, he has ample reason to wait. The real test is not only whether he can convince the divided Federal Open Market Committee (FOMC) to maintain rates unchanged, but more importantly, how he will explain the risks of energy, artificial intelligence (AI), and inflation, and how he will balance Fed independence with White House pressure.