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Soft Inflation Data Crashes Odds of Fed Rate Hike

Published Jul 16, 2026
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Summary:
  • Traders are closing out bets that the Federal Reserve would raise interest rates this year, following two inflation reports that came in cooler than expected.
  • The probability of a July rate hike dropped from 40% at the start of the week to roughly 16% after the data, based on interest-rate swaps.
  • Oil prices remain a risk, climbing after the breakdown of a US-Iran ceasefire and threatening to push inflation back up.

Inflation Data Shifts Expectations

The recent inflation reports are closely watched by the Federal Reserve as it balances its dual mandate of maximum employment and price stability. The Consumer Price Index (CPI) and Producer Price Index (PPI) both came in softer than economists had anticipated, suggesting that previous rate increases may already be curbing price pressures. This back-to-back miss has led traders to reassess the likelihood of further tightening, as the Fed's preferred measure of inflation - the core PCE - has also been trending lower.

The Federal Reserve has raised interest rates aggressively over the past year to combat elevated inflation. With the labor market remaining resilient, policymakers have signaled they are data-dependent. The recent inflation figures give the Fed more room to pause, as the full effects of previous tightening continue to filter through the economy.

Traders Flip the Script on Rate Hikes

Just a few days ago, a lot of money was riding on the idea that the Federal Reserve would raise rates this year. Now that bet is evaporating.

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Traders who had bought options to profit from a potential Fed rate increase are selling those positions. The reason is simple: two big inflation reports landed well below what economists predicted. Consumer prices came in low on Tuesday, and producer prices followed on Wednesday. The consecutive disappointments altered traders' calculations.

Interest-rate swaps, which let investors bet on future Fed moves, now show only four basis points of tightening priced in for the July 29 policy meeting. That is about 16% of a quarter-point hike.

Look further out, and the picture is even clearer. December contracts had earlier priced in 43 basis points of tightening. After the inflation data, that fell to 29 basis points.

The market had been expecting two quarter-point hikes by mid-2027, with at least one coming this year. Now the conversation has shifted to maybe one hike, or possibly none at all.

Why Two Numbers Mattered So Much

That is exactly what happened this week. The reports were not just a little below forecasts. The US consumer and producer price data, published on back-to-back days, indicated a greater slowdown than economists had forecast. Natixis chief US economist Christopher Hodge described the reports as "well-below-consensus" and said "hikes are not a foregone conclusion." Two straight soft prints and a rosier outlook mean policy might already be tight enough.

The Oil Wild Card

Oil prices continue to heavily influence hedging strategies around Fed policy, as any surge could revive inflationary pressures. They have increased since last week after the US and Iran failed to reach a ceasefire, which balanced out the lower Treasury yields caused by the mild inflation figures.

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