On Wednesday, September 30, traders were pricing only about a one-in-three chance of an October Fed rate hike, even as they continued to price for a hike by December, according to Reuters. A day earlier, the odds had been higher, until New York Fed President John Williams said he saw “no urgency” to follow September’s interest-rate increase with another one.
If you have ever read a sentence like that and wondered who exactly is doing this “pricing,” and how a feeling becomes a percentage, this one is for you.
The market is a prediction machine made of money
When reporters say “the market” expects something from the Federal Reserve, they are not describing a survey or a hunch. They are describing the prices of financial contracts that pay off depending on what the Fed actually does. The most important of these are fed funds futures, standardized contracts traded on the CME exchange that settle based on the federal funds rate, the overnight lending rate the Fed steers with its policy decisions.
Here is the simple idea behind them. Suppose the Fed’s target rate is currently 4.50 percent, and a fed funds futures contract for the month after the October meeting is trading at a price that implies an average rate of 4.63 percent. The market is not expecting the rate to land on 4.63 exactly. It is saying that the blend of possible outcomes, weighted by how likely traders think each is, averages out to 4.63. If everyone is convinced the rate stays at 4.50, the contract prices near 4.50. If everyone is convinced of a quarter-point hike to 4.75, it prices near 4.75. A price in between, like 4.63, means traders collectively see about a fifty-fifty shot of a hike.
That blend is what the CME FedWatch tool converts into clean probabilities like “33 percent chance of an October hike.” The tool reads the futures prices, maps them to the Fed’s actual meeting calendar, and outputs the odds (Reuters).
Why these odds move so fast
Think of the futures price as a living bet that thousands of professional traders update every second as new information arrives. On September 30, two pieces of information landed. First, the August inflation data came in lighter than expected: the Personal Consumption Expenditures Price Index, the Fed’s preferred inflation gauge, rose 3.4 percent in the 12 months through August, below the 3.7 percent economists had forecast, according to Reuters.
Second, Williams, one of the most influential voices on the Federal Open Market Committee, said there was “no urgency” to follow September’s rate increase with another, though he still thought another hike by year’s end would likely be needed (Reuters). Traders immediately repriced the contracts, and the October-hike odds slid to roughly one in three.
This is the important part for your own financial life: nobody in this process is guessing about your mortgage. Mortgage rates follow the 10-year Treasury yield, which moves with these same expectations. When traders slash the odds of near-term hikes, long-term yields can steady or fall. When they raise the odds, yields climb, and mortgage and corporate borrowing costs follow. The 10-year yield hitting its highest level since 2002 this week reflects, among other things, the market pricing a world where the Fed stays higher for longer (Investopedia).
What the odds are not
A 33 percent chance of an October hike does not mean the Fed is 67 percent of the way to a decision, and it does not mean one-third of traders are certain. It is an average of beliefs weighted by real money. And it is often wrong. In the years before 2022, futures routinely priced fewer hikes than the Fed eventually delivered. The odds describe the current consensus, not the future.
Also, the odds describe what traders think the Fed will do, not what it should do. In September, senior BMO economist Sal Guatieri wrote that the inflation data provided “little reason to think that the underlying trend in inflation has improved meaningfully” and would “reinforce the (Fed’s) view that some further policy tightening is needed,” as reported by Reuters. The market can be optimistic and still be underpricing the risk that the Fed surprises it.
How to use this in your own planning
You do not need to trade fed funds futures to use this information. The practical habit is this: when you hear “the market now prices a 65 percent chance of a December hike,” translate it into plain English. It means professional money is betting that borrowing costs stay elevated into year-end. For a family thinking about refinancing, for a small business weighing a loan, for anyone watching a savings rate, that is a nudge to lock in what you can and avoid assuming relief is around the corner.
And when the odds swing sharply on a single speech, as they did on Williams’s “no urgency” remark, remember the lesson of this week: these probabilities are opinions with money behind them. They update fast, they are sometimes wrong, and they are most useful as a map of what the financial world is bracing for, not as a promise of what comes next.
