Morgan Stanley’s Revised Outlook
Morgan Stanley has revised its outlook, withdrawing its prediction for a U.S. Federal Reserve rate cut in June due to rising inflation risks from newly announced tariffs by Trump. The bank now anticipates that the Fed will maintain current rates until March 2026.
Trump’s tariffs on US imports, targeting multiple countries, may lead to increased inflation. Consequently, Morgan Stanley suggests that these developments make it unlikely for the Fed to implement rate cuts this year.
Initially, the firm expected a 25 basis point cut in June but now finds that inflationary pressures might remain high, delaying any policy changes until inflation stabilises.
Contrasting Analyst Views
This view contrasts with other analysts who foresee Fed cuts due to weakening economic growth and potential recession influenced by the tariffs.
What the article sets out quite plainly is a shift in policy expectation by Morgan Stanley. They originally forecast a moderate interest rate cut by the Federal Reserve this June—about 25 basis points—but have since altered their stance. This reversal is attributed almost entirely to the inflationary effect anticipated from the new tariffs announced by Trump, which are aimed at a broad group of trading partners. By raising the cost of certain imported goods, these tariffs may well push prices upward across a wide range of consumer categories. Higher prices mean the Federal Reserve, which monitors inflation closely, would be more inclined to keep current rates indefinitely instead of easing monetary policy.
Now, others still see falling growth figures and slower hiring numbers as triggers for rate cuts, possibly even later this year. But as far as Morgan Stanley is concerned, those risks are being outweighed by persistent inflation—which tends to force central banks to stay the course on rates. They’ve gone a step further than most by suggesting we might not see a rate cut until March 2026, which is quite a stretch compared to typical projections.
Given this setup, the circumstances call for a fresh adjustment in short-term strategy. For traders in the derivatives space, particularly those positioned in interest rate swaps or options on Treasury yields, this presents a direct change to the assumptions baked into current pricing. The curve, which has largely been pricing in multiple cuts starting the second half of the year, may see renewed flattening or even inversion depending on how widely this viewpoint is adopted. Positioning that had leaned on June as a trigger for lower policy rates now appears misaligned, at least if we take this forecast as the dominant scenario. Carry trades relying on eventual rate compression will have to be re-evaluated.
Adjustments in Trader Strategy
What’s more, any options structures timed around a June shift—whether in vol-targeted strategies or simply those anticipating lower rates—will need to be rolled forward or hedged more aggressively. Many structured products that hinted at declining policy rates in shorter tenors will need re-pricing under this expectation. It’s worth stressing that if inflation readings remain stubborn, implied volatility in the shorter end of the curve could become sharper than it has been this quarter.
It’s the suddenness of the adjustment—not the scale of the tariffs alone—that changes how we interpret trader positioning. What seemed to be a benign upward drift in prices now has a chance of becoming more entrenched. That complicates correlations between nominal yields and inflation breakevens, particularly for pricing across the 2- and 5-year tenors. This dislocation, if it deepens, pulls us closer to conditions that would favour higher rate volatility.
One knock-on effect might come through dollar funding markets. If rate cuts are off the table until 2026, foreign exchange forwards and basis swaps could show pressure from longer carry periods. As pricing references shift, trades hedging currency risk might require additional margin or rebalancing.
For now, we should keep looking not only at CPI and wage data but also at producer costs, which tend to be early indicators of inflation persistence. Any data showing signs that firms are passing on costs faster than expected would lend further support to Morgan Stanley’s rates view.
In short, it’s no longer about whether inflation falls slowly—it’s about whether it falls at all over the next 12 months. That’s the variable traders need to recalibrate against in the weeks ahead.
