U.S. financial markets are swinging sharply after the Federal Reserve once again held its benchmark rate at 3.50–3.75%. Wall Street reacted especially violently to the Fed's choice to hold despite sending hawkish (tight-money) signals, immediately dumping U.S. Treasurys. The market concluded that the Fed, led by Chairman Kevin Warsh, missed the point at which it should have raised rates, leaving room for long-term inflation. Long-term U.S. Treasury yields posted their sharpest rise since the 2007 global financial crisis, and the artificial-intelligence Big Tech names in the stock market weakened on concerns over astronomical debt burdens. With renewed armed conflict between the U.S. and Iran heightening uncertainty over global oil prices, the bond market has effectively issued a warning to Chairman Warsh for tolerating the possibility of inflation. Market participants appear to have hardened this view especially after three of the 12 members at this month's Federal Open Market Committee (FOMC) meeting held out for a 0.25-percentage-point rate hike to the end. If market rates surge, the interest burden on hyperscalers (mega cloud operators) that have already issued large volumes of corporate bonds will naturally increase as well. That means their capacity for additional AI infrastructure investment will inevitably shrink. Furthermore, this could translate into forecasts of slowing AI-related demand, including for high-bandwidth memory (HBM), acting as a factor pulling down semiconductor-related shares even further.
Fed Pushes Through Fifth Straight Rate Hold Amid First 'Three Dissents' in a Decade
The Fed held an FOMC regular meeting at its building in Washington, D.C. on the 29th (local time) and announced its decision to keep the benchmark rate unchanged at the current 3.50–3.75%. With this, the Fed has held rates steady for a fifth consecutive time, following January, March, April and June. Since Chairman Kevin Warsh newly took office, it marks a second straight hold, after last month.
With this Fed decision to hold, the rate gap between Korea (2.75%) and the U.S. was also maintained at 1.00 percentage point on an upper-bound basis. Earlier, the Bank of Korea's Monetary Policy Board raised the benchmark rate by 0.25 percentage point from 2.50% to 2.75% on the 16th.
The Fed said that at this FOMC, only nine of the 12 members supported holding rates. This differed from last month's FOMC meeting, where the decision to hold was unanimous. According to the Fed, three members—Dallas Fed President Lorie Logan, Cleveland Fed President Beth Hammack and Minneapolis Fed President Neel Kashkari—cast dissenting votes, arguing that rates should be raised by 0.25 percentage point. These three had also, at the April 28–29 FOMC meeting, supported holding rates but opposed the Fed statement's easing tilt, including the "further adjustments" language. It was the first time in a decade, since the September 2016 FOMC meeting, that three members simultaneously dissented in favor of a rate hike. Having as many as three dissents at an FOMC meeting run by consensus was itself highly unusual.
Aside from the content that three members including Hammack argued for a rate hike, the wording on the economic assessment in the policy statement that day was nearly identical to the June statement. As with last month, this statement also contained no forward guidance (advance signaling on the direction of monetary policy). In the statement, the Fed said, "Inflation remains above the 2% target, partly reflecting supply shocks that have driven up prices in some sectors, including energy," and, "The Committee will achieve price stability." The Fed added, "Despite heightened uncertainty from factors such as the Middle East conflict, economic activity is expanding at a solid pace," and, "Productivity gains and capital investment are strong, and the unemployment rate has changed little."
Warsh: Verbally 'Firm on 2% Inflation Target'... On Already-Risen Market Rates, 'We Don't Follow Them, But We Observe'
At a press conference held right after the FOMC meeting, Warsh, asked whether the benchmark rate shouldn't rise if market rates rise, said, "The Treasury market appears to be sending a message that economic growth and output are solid, capital expenditure and productivity are strong, and the labor market is stable," and assessed that "financial markets have carried out a considerable degree of tightening on their own." He added, "The Fed does not follow market judgments as if they were commands, but it does observe them," and, "Right now is not a time to wait but a time to think about difficult questions—economic shocks, underlying conditions, policy tools, and their effects on prices and output—and virtually all members agreed on this point."
Regarding the three members who ultimately dissented, Warsh asserted, "There was broad agreement that the Fed has the authority, tools and responsibility to achieve price stability, and a genuine family fight broke out," and, "There was an active and intense discussion over every possible policy option." He said, "The June core consumer price index (CPI), excluding energy and food, had little influence on this decision to hold," and, "What matters is the trend in the data, not individual figures; just because there have been some encouraging recent price readings, the Fed is not holding its breath waiting on those indicators alone." Earlier, U.S. June CPI and producer price index (PPI) growth had slowed unexpectedly thanks to a war-ending memorandum of understanding (MOU) signed last month between the U.S. and Iran.
To the point that the Fed's decision to hold could further heighten market inflation concerns, Warsh repeatedly countered with hawkish views. Warsh said, "I don't see rates as the only solution to inflation," and expressed confidence that, "There is a perception among financial markets, households and businesses that the Fed officially presents a 2% target while actually tolerating higher inflation, but we will be judged by actual results, not words." He stressed, "The Fed's goal is to spread economic growth more broadly while confining inflation to certain areas," and, "Under the FOMC's watch, there is no softened inflation target." Warsh added, "Among some experts on households, businesses and markets, the high inflation of the past five years has left a hard-to-shake, mistaken impression that the Fed's implicit inflation target is above 2%," explaining, "There is only one single target, 2%."
On the standard for measuring 2% inflation, Warsh explained, "We officially adhere to the personal consumption expenditures (PCE) price index as the benchmark for the Fed's 2% target," while adding, "A related task force may offer views, so I won't rule out the possibility of changes next year."
To the point that "the market is treating a September rate hike as all but a done deal," Warsh drew a line, saying, "The Fed is not constrained by market prices, nor does it accept those judgments as they are," and, "There is no 'magic wand' to solve inflation in a matter of days or weeks." Asked about the monetary policy he would unveil at the Fed's annual economic policy symposium (the Jackson Hole meeting) to be held at the "Jackson Lake Lodge" hotel in Wyoming on the 26th–29th of next month, he answered, "Right now it's a complete blank slate," and, "I want to raise the big questions, beyond myopic matters like a 0.25-percentage-point rate adjustment."
Only Vague Signals After Forward Guidance Scrapped... Long-Term Bond Yields Surge, Semiconductor Shares Plunge
With forward guidance abolished, the market could not hide its disappointment at Warsh's vague explanation of the rationale behind the decision to hold. Amid renewed armed conflict between the U.S. and Iran since the 7th of this month and unstable global oil price movements, the view spread rapidly that the Fed was responding too loosely to inflationary pressure. Some even suspected Warsh had been mindful of the intentions of President Donald Trump, who wants rates not to rise. On the 27th, aboard Air Force One en route to Michigan, Trump met reporters and boasted, "Rates should be cut," adding, "Then this country's gross domestic product (GDP) growth rate could reach 8–12%." He then criticized, "Chairman Warsh is excellent, but the Fed governors are very political."
The market's reaction was shocking. In the New York bond market that day, the yield on the 30-year U.S. Treasury [BODY]
The yield rose 0.11 percentage point from the previous session to 5.21%, the highest in 19 years since July 2007, just before the global financial crisis. The 10-year U.S. Treasury yield, a benchmark for the global bond market, rose 0.07 percentage point to 4.67%. Wall Street views 5.0% for the 30-year and 4.5% for the 10-year as the last line of defense for investor sentiment. With Treasury yields already past those thresholds due to Middle East conflict, the Fed added more fuel to the fire.
The two-year U.S. Treasury yield, sensitive to monetary policy, fell 0.04 percentage point from the prior session to 4.24%, contrasting with longer-dated notes. This showed that market participants reacted more sharply to future price increases from a rate freeze than to immediate inflation. As a result, international gold prices rebounded, and the dollar index (DXY), which reflects the dollar's value against six major currencies, declined.
Amid the rise in long-term bond yields, the Dow Jones Industrial Average (-2.19%), the Standard & Poor's 500 (-1.52%) and the Nasdaq Composite (-1.74%) all fell on the New York Stock Exchange that day. The Dow posted its largest decline in 15 months since April 28 last year (-2.48%), just after the Trump administration announced its reciprocal tariff policy. As market rates soared, shares of Big Tech firms that recently issued large volumes of corporate bonds—Microsoft (-0.57%), Amazon (-1.82%), SpaceX (-3.38%) and Facebook parent Meta (-1.20%)—fell one after another. Above all, investor sentiment toward semiconductor-related stocks worsened once again, including Nvidia (-3.45%), Broadcom (-2.75%), SK Hynix (-2.60%), Micron (-9.94%), AMD (-5.51%), ASML (-2.04%), Intel (-5.12%), Applied Materials (-8.40%), Lam Research (-6.40%) and SanDisk (-7.32%). The Philadelphia Semiconductor Index also plunged 5.33%.
Bond Vigilantes Sell Off Over Inflation Inaction... Rate-Hike Odds Plunge Amid Disappointment in 'Hawk in Words Only'
To make matters worse, armed conflict between the U.S. and Iran resumed, sending international oil prices soaring again. On the ICE Futures Exchange in London, Brent crude futures for September delivery jumped 7.9% from the previous session to $90.74 a barrel, while U.S. West Texas Intermediate (WTI) futures for September delivery on the New York Mercantile Exchange rose 6.6% to close at $84.46 a barrel. This came as the U.S. and Iran, which had shown a lull from the 24th to the 27th of this month, resumed military action against each other starting on the 28th. In a phone interview with Fox News that day, U.S. President Donald Trump signaled a harsh reprisal over Iran's surprise attack on a U.S. base in Jordan, saying, "We are going to pound them." The U.S. Treasury and State departments added the Persian Gulf Maritime Insurance Company (PGMIC) and the Hormuz Safety Maritime Services Administration (HMSA)—identified as channels through which Iran collects tolls in the Strait of Hormuz—to their sanctions lists.
Wall Street experts diagnosed that the market is demanding Chair Warsh act more aggressively against inflation. They forecast that so-called bond market "vigilantes" would lead rate hikes ahead of the monetary policy authorities. Vigilantes refers to investors who forcibly push up interest rates by selling off bonds en masse to block excessive government fiscal spending or loose monetary policy. The term originated from the idea of punishing policymakers through the power of the market when they try to wreck the economy, much like vigilantes who enforce the law themselves.
Jeffrey Gundlach, CEO of DoubleLine Capital and known on Wall Street as the "new bond king," said on CNBC that day: "If they really wanted to reach the 2% inflation target, they should have raised rates." He noted, "The sharp rise in long-term Treasury yields after Chair Warsh's press conference was the bond market vigilantes saying, 'Now is the time to act.'" Torsten Slok, chief economist at Apollo Global Management, told Bloomberg TV that "the Fed's abandonment of forward guidance is making Treasury yields go up and down like a 'yo-yo,'" adding, "It was complicated to figure out the basis for this rate decision, and there is now little for the market to expect."
Indeed, according to the CME FedWatch Tool, the federal funds futures market sharply raised the probability that the Fed would freeze rates again at the FOMC meeting on Sept. 15-16 to 42.6% that day from 24.0% the previous day. The probability of a 0.25 percentage point rate hike rose to 57.4% from 55.8%, but the chance of a 0.50 percentage point hike shrank to 0% from 20.2%. The probability that the Fed would keep rates on hold throughout the year also rose to 16.8% from 11.0% in a single day. Conversely, the possibility of a rate hike within the year fell to 83.2% from 89.0%, and expectations for its magnitude also declined significantly.
With forward guidance eliminated, Chair Warsh's communication style—which gives investors only ambiguous signals—appears to have done little so far to ease market instability. Moreover, Warsh has faced considerable distrust since taking office, given that he holds the confidence of President Trump, who strongly wants rate cuts. Market volatility is likely to remain high for the time being until Warsh translates his hawkish pledge to defend 2% inflation into actual action.
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