Rate hike now priced in for early 2027 as inflation and jobs data complicate cuts
The Federal Reserve is set to keep interest rates unchanged for the remainder of 2026, with markets now fully pricing in a rate hike by the end of Q1 2027, according to a new outlook from the Franklin Templeton Institute.
The note by senior market strategists Richard Polsinello and Chris Galipeau, points to persistently elevated inflation and a resilient labor market as the twin forces keeping new Fed Chair Kevin Warsh's hands tied.
Core inflation continues to run above 3% against the Fed's 2% target, while May's nonfarm payroll report showed 172,000 jobs added, more than double market expectations and the fourth time in five months the figure exceeded 100,000. Unemployment held at 4.3%.
The strategists note the Fed appears divided on the path ahead, and Warsh's first policy meeting is expected to yield little action. All attention will fall on the dot plot and his debut press conference, even though Warsh has indicated he will not personally participate in the projections exercise.
Geopolitical pressure is adding another layer of complexity. The ongoing US-Iran conflict, now past the three-month mark, has pushed Brent crude to around $95 a barrel, roughly 35% above pre-war levels and well off its $115 peak. The institute warns that sustained oil prices at this level would pose a growing threat to global growth.
On the economic front, Franklin Templeton's GDP growth forecast for 2026 stands at 2.5%, slightly ahead of both the Fed's 2.4% projection and the Wall Street consensus of around 2.3%. First-quarter growth came in at 1.6%, driven by business investment and consumer spending.
Despite the uncertain macro backdrop, the firm remains constructive on equities. First-quarter earnings were strong, with 84% of S&P 500 companies beating estimates and year-on-year EPS growth of 27%. The S&P 500 had just completed nine straight positive weeks before the streak ended, a run that ranks among only four such streaks in the past half century.
The institute favors a broadening investment approach, with small caps, value stocks and emerging markets all seen as having room to outperform. "Buy the dips and sell the rips," the report advises.
On fixed income, the 10-year Treasury yield is expected to remain in a 4.25% to 4.75% range, with shorter duration positions preferred given ongoing rate volatility.
