National Bank of Canada strategists expect Kevin Warsh’s first rate decision as Chair of the FOMC on Wednesday to clarify how Jerome Powell’s successor will run the Federal Reserve, with communication and reaction function central to the shift. Warsh has said inflation remains too high, while questioning whether PCE ex-F&E is the best proxy for underlying pressures; he has argued for “trimmed” averages and has said these have shown a “quite favourable” trend recently. The bank’s read-through is that, even if current price data still do not align with easing, Warsh could frame the inflation outlook in a more relaxed way.
The strategists also point to a rebalancing of the Fed’s mandate emphasis. Warsh has criticised perceived “mission creep” into social, political and climate topics, and although he affirmed commitment to maximum employment at his confirmation hearing, the discussion was weighted towards price stability. He has further blamed post-COVID policy mistakes on forward guidance, arguing that frequent publication of economic, inflation and rate projections can lock officials into static views and slow responses to new conditions; he has also suggested officials talk too much and that decisions should be made “in the room”.
Market Adaptation to New Fed Policy Approach
With Kevin Warsh now leading the Fed, we must adapt to a more unpredictable policy environment. His first meeting this past Wednesday confirmed a shift away from clear forward guidance, meaning the old playbook of trading Fed signals is over. We expect market volatility to be structurally higher in the coming weeks and months.
We believe owning volatility is now the primary trade. The MOVE index, a gauge of Treasury market volatility, has already spiked to 115 this week, up from the low 90s just a month ago. We should be buying options, like straddles and strangles, on interest rate futures and major equity indices to profit from the larger price swings that are likely to occur around economic data releases.
Implications for Rates, the Dollar, and Market Communication
The path for interest rates appears skewed to the upside. While May’s headline PCE inflation was a manageable 2.6%, the trimmed-mean PCE figure that Warsh has highlighted remains elevated at 3.1%, giving him cover to maintain a hawkish stance. We are therefore positioning for a flatter yield curve by using SOFR futures, anticipating that short-term rates will remain stubbornly high.
This policy tilt is also bullish for the US Dollar. The Dollar Index (DXY) has already pushed past 106.50, and we see further strength ahead as rate cut expectations are pared back more aggressively in the U.S. than in Europe. We are buying short-dated call options on the USD against the Euro and Yen.
We can no longer rely on frequent speeches from Fed officials to guide our positions between meetings. This new communication style, where policy is decided “in the room,” increases the importance of the official FOMC statement and the Chair’s press conference. This is reminiscent of the pre-2008 era, where traders had to decipher policy shifts from subtle changes in language rather than explicit guidance.
