Alert

What is IV rank and how do options traders use it?
tastytrade logo
united states federal reserve logo with flag and dollar bill

Jun 22, 2022

How the Fed Affects Interest Rates

By:Frank Kaberna

Last week, the Federal Open Market Committee held their fourth meeting of the year where they hiked the Federal Funds Rate - a benchmark for short-term interest rates in the US - by 0.75% (75 bps); this was the largest hike by the Fed in more than 20 years.* So why did it send interest rates lower?

S2Y \ Small 2YR Yield Futures Historical Prices

small-two-year-yield-futures-historical-prices-chart.png

While the Fed only directly affects the Fed Funds Rate, changes made to that interest rate can affect popular interest rate trading markets like US Treasuries. However, on June 15, 2022 - the day the Fed hiked rates by 0.75% - Small 2YR US Treasury Yield (S2Y) futures fell by the equivalent of -0.23% in 2YR US Treasury interest rates, which are often highly correlated with Fed Funds Rates.

If the Fed is one of the most influential voices in interest rate pricing, then how can interest rate markets move lower on the actual day that the Fed hiked rates? Futures and options have a time component that requires traders to think steps ahead, and you can see by the price action in S2Y futures leading up to the actual event that this hike had been priced in for a while.

Interest Rate Futures: How They Work

On days when the Fed isn’t hiking or cutting rates, interest rate futures largely move based on where traders think rates are headed. You can think of the day-to-day interest rate price action as efficiently getting closer and closer to what the Fed will do in the future, and this process is informed by employment data, inflation data, the state of the stock market, and more. For example, Small 2YR Yield futures rose the equivalent of +2.40% from January 1, 2022, to the Fed Rate Hike Day of last Wednesday, while the Fed has only hiked rates 1.50% in the same time. The difference is owing to future rate hikes already priced into the market.

Interest Rate Price Action

interest-rate-price-movement.png

What to Expect from the Fed

The move lower in rates coming out of the Fed meeting owed to Fed Chair Powell’s talking down of large rate hikes in the future. Though projections still state that the Fed will continue to move Fed Funds Rates higher, those projections came down slightly after Powell’s press conference.

Interest Rate Projections for End of 2022

interest-rate-probabilities-chart-after-december-2022-federal-reserve-meeting.png

Derivatives trading can seem daunting at times given that you have to be positioning yourself for what’s next, but the question in rates seems pretty straightforward: do you buy into the mania of much higher interest rates being required to quell inflation (buy S2Y), or do you think the inflation madness has peaked and rates will revert (sell S2Y)?

Follow us on Twitter: https://twitter.com/small_exchange

Subscribe to our YouTube Channel: https://www.youtube.com/channel/UC5pAsul3H_7FYuPmZscClrA

*Source: The Federal Reserve (https://federalreserve.gov)

© 2022 Small Exchange, Inc. All rights reserved. Small Exchange, Inc. is a Designated Contract Market registered with the U.S. Commodity Futures Trading Commission. The information in this advertisement is current as of the date noted, is for informational purposes only, not intended as a recommendation, and does not contend to address the financial objectives, situation, or specific needs of any individual investor. The information presented here is for illustrative purposes only, and is not intended to serve as investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Trading in derivatives and other financial instruments involves risk.


Options involve risk and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options before deciding to invest in options.

Related Posts

tastytrade content is provided solely by tastytrade, Inc. (“tastytrade”) and is for informational and educational purposes only. It is not, nor is it intended to be, trading or investment advice or a recommendation that any security, futures contract, transaction or investment strategy is suitable for any person. Trading securities can involve high risk and the loss of any funds invested. tastytrade, through its content, financial programming or otherwise, does not provide investment or financial advice or make investment recommendations. Investment information provided may not be appropriate for all investors, and is provided without respect to individual investor financial sophistication, financial situation, investing time horizon or risk tolerance. tastytrade is not in the business of transacting securities trades, nor does it direct client commodity accounts or give commodity trading advice tailored to any particular client’s situation or investment objectives. Supporting documentation for any claims (including claims made on behalf of options programs), comparison, statistics, or other technical data, if applicable, will be supplied upon request. tastytrade is not a licensed financial advisor, registered investment advisor, or a registered broker-dealer. Options, futures and futures options are not suitable for all investors. Prior to trading securities products, please read the Characteristics and Risks of Standardized Options and the Risk Disclosure for Futures and Options found on tastyworks.com. 

tastytrade is a trademark/servicemark owned by tastytrade.

tastyworks, Inc. ("tastyworks") is a registered broker-dealer and member of FINRA, NFA and SIPC. tastyworks offers self-directed brokerage accounts to its customers. tastyworks does not give financial or trading advice nor does it make investment recommendations. You alone are responsible for making your investment and trading decisions and for evaluating the merits and risks associated with the use of tastyworks’ systems, services or products. tastyworks is a wholly owned subsidiary of tastytrade, Inc (“tastytrade”).

tastyworks, Inc. (“tastyworks”) has entered into a Marketing Agreement with tastytrade (“Marketing Agent”) whereby tastyworks pays compensation to Marketing Agent to recommend tastyworks’ brokerage services. The existence of this Marketing Agreement should not be deemed as an endorsement or recommendation of Marketing Agent by tastyworks. tastytrade is the parent company of tastyworks. tastyworks and Marketing Agent are separate entities with their own products and services. tastytrade has different privacy policies than tastyworks.

Quiet Foundation, Inc. (“Quiet Foundation”) is a wholly-owned subsidiary of tastytrade The information on quietfoundation.com is intended for U.S. residents only. All investing involves the risk of loss. Past performance is not a guarantee of future results. Quiet Foundation does not make suitability determinations, nor does it make investment recommendations. You alone are responsible for making your investment and trading decisions and for evaluating the merits and risks associated with the use of Quiet Foundation’s systems, services or products.

Small Exchange, Inc. is a Designated Contract Market registered with the U.S. Commodity Futures Trading Commission. The information on this site should be considered general information and not in any case as a recommendation or advice concerning investment decisions. The reader itself is responsible for the risks associated with an investment decision based on the information stated in this material in light of his or her specific circumstances. The information on this website is for informational purposes only, and does not contend to address the financial objectives, situation, or specific needs of any individual investor. Trading in derivatives and other financial instruments involves risk, please read the Risk Disclosure Statement for Futures and Options. tastytrade is an investor in Small Exchange, Inc.

© copyright 2013 – 2022 tastytrade. All Rights Reserved. Applicable portions of the Terms of use on tastytrade.com apply. Reproduction, adaptation, distribution, public display, exhibition for profit, or storage in any electronic storage media in whole or in part is prohibited under penalty of law, provided that you may download tastytrade’s podcasts as necessary to view for personal use.