Fed Faces Hawkish Surprise as Market Prices ~40% Chance of Rate Hike

The Technology Select Sector SPDR Fund (XLK.US) has taken a beating in July, down roughly 8% due to weak demand and supply chain issues. The semiconductor sector is particularly affected, with the VanEck Semiconductor ETF (SMH.US) down more than 50% from its peak. Memory chips have been hit hard, with SK hynix (SKHY.US) down over 10% and Japan's KIOXIA HOLDINGS CORPORATION UNSPON ADR EACH REP 0.1 COM (KXIAY.US) down over 15%. The easy money has gone out of the AI-infrastructure trade, as China's push for chip self-sufficiency disrupts global supply.

On Wednesday, July 29, the Federal Reserve is expected to hold interest rates steady at 3.50-3.75%, despite predictions of a ~40% chance of a hike. Goldman Sachs notes that this would be one of the biggest hawkish surprises in three decades. The debate has shifted from 'hold versus cut' to 'hold versus hike', with some analysts predicting a September rate increase.

The Fed's decision will be influenced by the tone and language used by new Chair Kevin Warsh, who has stated that inflation is 'a choice'. With no dot plot this meeting, investors are looking closely at his words for guidance. A near-certain hold would be unusual, as the Fed rarely hikes rates when the market isn't already sure of it.