July Rate Hike Odds Soar Amid Oil Price Increases

Markets have reassessed the likelihood of a July Federal Reserve interest rate hike following oil price increases that reignited inflation concerns. According to OCBC's Sim Moh Siong and Christopher Wong, the probability of a hike fell to just 10% after benign US inflation data but has since rebounded to 35%. This shift in sentiment is attributed to higher oil prices rekindling worries about inflation.

A 'hawkish hold' by the Fed, where interest rates remain unchanged with hawkish guidance, would likely push expected rate hikes further out and keep the US Dollar (USD) supported. Conversely, a poorly explained pause could hurt the Fed's credibility, lift inflation breakevens, and weigh on the USD over the coming months.

The market reaction to a hold will be heavily influenced by the Fed's communication. A hawkish hold would keep tightening expectations further out, while a dovish interpretation of the decision could lift long-end inflation breakevens and negatively impact the USD.