Just weeks ago, financial markets anticipated multiple interest rate reductions from the Federal Reserve before 2027. Now, those hopes have been all but dashed, leaving investors facing a potentially stagnant year.
A dramatic shift has occurred in market sentiment. Where futures markets previously predicted two, possibly even three, rate cuts of a quarter-percentage-point each, they now indicate an almost 80% likelihood that the Fed will hold steady throughout the year. A month prior, the probability of no cuts was a mere 5.3%.
Bloomberg reports a similar sentiment among bond traders, who are no longer factoring in any rate cuts. This is reflected in the movement of two-year Treasury yields, which are particularly sensitive to Fed policy expectations and now trade above the effective Fed funds rate.
The primary driver behind this change is the conflict in Iran and its consequential surge in oil prices. Brent crude is currently around 50% higher than its pre-war level, injecting uncertainty into the economic outlook. Central banks, including the Fed, require a degree of economic clarity when making monetary policy decisions, a clarity that is currently absent.
Fed Chair Powell, when questioned about the oil shock’s impact, admitted the uncertainty. "The thing I really want to emphasize is that nobody knows," he stated at a recent press conference. "The economics effect could be bigger, they could be smaller, they could be much smaller or much bigger. We just don’t know."
The implications for investors are significant. The adage "Don’t fight the Fed" highlights the positive market impact of rate cuts. Lower rates typically fuel market growth, encouraging investment. The expectation of these cuts had created an anticipated tailwind for the stock market in 2026. Sadly, the war has eliminated this prospect, leaving investors bracing for a potentially less buoyant year.
Change in Fed Rate Cut Expectations
| Time | Expected Rate Cuts | Probability of No Cuts |
|---|---|---|
| One Month Ago | 2-3 | 5.3% |
| Present | 0 | 78.2% |
