Alberto Musalem, President of the Federal Reserve Bank of St. Louis, said the oil shock linked to the Middle East war is likely adding to core inflation. He expects core inflation to stay near 3% throughout the year.
He said supply shocks can threaten the Fed’s aims for inflation and employment. He added that the current interest rate range is likely suitable for some time.
Growth Outlook Shifts Lower
Musalem lowered his GDP estimate for the year to 1.5% to 2%, from 2% to 2.5% before the war. He said he has not yet seen clear effects from the war on consumption.
He said easing effects from tariffs should help bring inflation down. He also said housing inflation is moving in the right direction.
He said the unemployment rate could rise as growth slows. He said it may increase by a couple of tenths of a percentage point.
With core inflation running hot, as the March 2026 CPI report showed at 3.1% year-over-year, we must adjust our interest rate expectations. These comments suggest the Federal Reserve will hold rates steady for longer than the market previously anticipated. Derivative traders should therefore consider unwinding bets on a summer rate cut and look at strategies that profit from a hawkish pause.
Options Positioning For Higher For Longer
The geopolitical oil shock, which sent Brent crude from below $90 a barrel in late 2025 to over $100 this quarter, is the main driver behind this inflation. This situation increases the appeal of call options on energy sector ETFs to hedge against further price instability. We are also seeing heightened volatility, which makes long-volatility positions attractive.
The lowered GDP forecast, now tracking around 1.7% according to the latest Atlanta Fed model, signals a difficult stagflationary environment. This outlook favors defensive positioning in the options market, such as buying puts on cyclical indexes like the Russell 2000. It is a tricky balance between persistent inflation and slowing economic activity.
Given the uncertainty, the VIX has remained elevated, consistently trading above 18 for the past several weeks. This sustained volatility makes option-selling strategies risky, so we should focus on defined-risk trades like credit and debit spreads. These can help manage the high cost of premiums while still allowing us to take a directional view.
While housing inflation is said to be moving correctly, recent Case-Shiller data from early this year showed a slight re-acceleration, reminding us that the path down will be bumpy. We shouldn’t get complacent on any single inflation component easing. This complex picture suggests trading opportunities in instruments tied to both inflation expectations and rate volatility.
