SOFR Put Unwind Accelerates as Two Soft CPI Prints Shift Fed View

At the start of the week, the swaps market priced in about a 40% chance of a quarter-point hike at the July 29 Fed meeting. By Thursday, that had fallen to roughly 13%, or about three basis points of tightening. December contracts priced in about 29 basis points of tightening, down from 43 basis points Monday.

The repricing has collapsed demand for rate-hike hedges. Selling of SOFR puts, particularly September and December expiries, dominated options trading during US hours Thursday. Open interest declined on Wednesday, suggesting the sales were closing existing positions rather than establishing new ones.

Not all Fed officials have softened their tone. Dallas Fed President Lorie Logan on Thursday called for “modestly higher interest rates,” saying inflation does not appear to be heading sustainably back to the 2% target.

Oil prices remain a wild card. They rose this week after the collapse of a US-Iran ceasefire, paring some of the Treasury gains from the benign inflation data. US strikes against Iran marked a fifth straight day of attacks, and shipping traffic slumped in the Strait of Hormuz.

“Energy prices are the main risk to the disinflation narrative,” Hodge said. “If crude keeps climbing, the rate-hike talk comes back.”