Warsh’s Fed Today

MACRO FRAME

The US and Iran have agreed to a framework deal to end their conflict, reopen the Strait of Hormuz, and move toward broader negotiations—though major issues (Lebanon conflict, nuclear program) are not fully resolved yet.

STOCK INDEX FUTURES

Equity index futures were mixed overnight, ahead of today’s Fed decision. The US and Iran appear on track to sign their agreement to end the war on Friday, which is set to reopen the Strait. The Wall Street Journal reported that the US would allow Iran to immediately begin selling oil and fuel under the deal to end the war, which should alleviate tightness in global oil supplies and offer some relief to broader inflation concerns. The Fed is expect to leave rates on hold in the first meeting under Warsh. What will be of interest is how Warsh communicates as Chairman, though it is unlikely he will offer much, if any guidance on where policy stands. On the data front, US retail sales beat forecasts, rising 0.9% MoM in May. Excluding gas stations, sales rose 0.7%. In the retail control group, which is used to calculate GDP, sales rose 0.7%, following a 0.5% rise in April.

On the defensive end, Lebanon is still a major complication for the US and Iran because Israel and Hezbollah have not fully stopped fighting, and Iran is treating a ceasefire there as part of the bargain while Israel is not committing to a withdrawal. The recent rally is vulnerable to a lack of details over the deal and if the Lebanon front worsens, which could again disrupt shipping. Elsewhere, recent weakness has highlighted that the rally is concentrated in just a handful of crowded AI and tech names, leaving downside risks tech-related growth, cash‑flow conversion, or capex discipline disappoint.

Watch point: While May’s softer core CPI print reduces the urgency for additional Fed tightening and should be welcomed by equities, core inflation remains above target, suggesting policy will stay restrictive and reinforcing the case for selectively adding some defensive positioning alongside exposure to the ongoing tech‑led momentum.

CURRENCIES

US DOLLAR: The USD index is little changed at 99.63. The Fed’s meeting and dot plot will be the key watch item for currency markets today, though the recent developments between the US and Iran should warrant caution in reading too far into Fed policymaker projections. The preliminary US-Iran deal and drop in oil prices have lifted risk appetite and led traders to reduce expectations of Fed rate hikes. Still, it is likely to take weeks for tanker traffic to resume to pre-war levels. Additionally, a lack of details over the agreement is the main obstacle in keeping the dollar from its next move. Confirmation that shipping will once again move through the strait toll-free is likely to pressure the dollar further, while any terms that limit traffic through the straight could see the dollar find some strength. Broadly, the dollar is likely to lose support from an unwinding of Fed rate hike expectations. The geopolitical bid remains the dominant factor in price direction for the dollar.

Watch point: A durable peace agreement and drop in oil prices is likely to unwind expectations of Fed policy tightening, which could erase support for the dollar and see it fall closer to the 99 level in the near-term.

EURO: The euro is little changed at $1.1602 as traders await details of the US-Iran peace agreement and the Fed’s meeting later today. While the cease in hostilities lowers the geopolitical risk premium and oil prices,  emerging second-round inflation effects from the conflict could impact European Central Bank policy. ECB’s Nagel added that oil supply recovery would take months, delaying any inflation relief for some time. Money markets continue to expect one more rate hike from the ECB this year come October. For the ECB, policy is likely to remain biased upwards, though a continued easing in services inflation could dull some expectations of a move upwards. The euro is likely to benefit from risk-on flows away from the dollar, while reduced expectations of Fed tightening will also see the dollar lose underlying support against the euro.

Watch point: While a peace deal and restoration of oil flows through the Strait is likely to push back tightening expectations, the ECB remains biased upwards in its policy trajectory and traders should be watchful of another rate hike in the next two quarters.

BRITISH POUND: Sterling is little changed at $1.3417. The pound shrugged off softer-than-expected inflation overnight ahead of the Bank of England’s policy meeting tomorrow. Inflation held at 2.8% YoY in May, while core inflation rose modestly to 2.6% YoY, below expectations of a rise to 2.7%. Economists polled by Reuters had forecast a rise to 3.0% for May, and the BoE in April predicted an increase to 3.3%. The BoE is expected to hold policy steady. Politics will come back into the focus tomorrow in a local election that could result in contention of Prime Minister Starmer’s position.

JAPANESE YEN: The yen is little changed at 160.23 yen per dollar, though did find some strength overnight as traders stood alert for possible intervention by government authorities. The Bank of Japan’s rate hike offered the yen no support despite rates being at their highest level in 31 years. Mainly, Deputy Governor Uchida’s comments were in line with earlier guidance, which has in recent months failed to protect the yen from depreciating as it offered no firm policy support. With policy rates still deeply negative in real terms, incremental moves are unlikely to deliver a durable yen rebound or materially change Japan’s still-fragile exit from deflation. The market sees a total of 24 bps of tightening by January 2027. Intervention risk continues to offer the currency support around the 160 level.

AUSTRALIAN DOLLAR: The Aussie is little changed at $0.7068. The Reserve Bank of Australia held interest rates steady earlier this week and warned that further tightening could be necessary, though markets have cast doubt on that scenario. The central bank board noted the economy and consumer demand had slowed, thanks to higher rates, while the housing market had cooled. It also emphasized that inflation was too high and it stood ready to raise rates again if needed. For the RBA, the move gives policymakers further time to assess how earlier rate hikes are effecting the broader economy, essentially keeping its options open for further meetings. A recent mix of softer economic data has led markets to pare back expectations of another rise in the RBA’s policy rate. Still, demand is largely outpacing supply, labor conditions remain tight, leaving the inflation bias pointed upwards. The trimmed mean measure of inflation sits at an annual pace of 3.4%, which in our view is likely to reinforce a tightening bias from the RBA.

Watch point: While a durable end to the war would alleviate downside risks to growth and moderate inflation pressures, ongoing pass-through into broader prices is likely to keep the RBA on a tightening path.

TREASURY FUTURES

Yields are lower across the curve in response to the US-Iran news ahead of the Fed’s first Warsh-led meeting this week. Negotiations on aspects of the deal are ongoing, but no doubt policymakers will be relieved that the upside risks to inflation appear to be receding. The two-year remains above 4%, a key signal that the bond market is not totally relieved from the recent news. Recent inflation data has reinforced a hawkish-leaning hold, but removed any immediate urgency to move rates higher. Markets are expecting a hold this week, but expectations of a hike later in the year have been priced out, with markets now pricing a hike for March of 2027. The bond market will continue to look toward oil prices for cues on the direction of yields. Oil will likely need to drop closer to $65bbl for rate-hike expectations to null significantly. For now, price pressures have proven relatively transitory without presenting a durable second-round impulse. If core CPI prints above 3.0% annualized in coming readings, that argument becomes hard to sustain.

Watch point: The Warsh-led Fed is likely to hold on rates for the remainder of the year, though second-round inflation effects present moderate upside risks to inflation in upcoming data.

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