The September FOMC meeting resulted in the first rate hike in more than three years, marking an effort by the Fed to reestablish inflation-fighting credibility after months of increasingly hawkish rhetoric. With inflation running above target and market participants questioning the Fed’s willingness to follow through, the decision signaled a renewed commitment to price stability from what many viewed as an increasingly dovish central bank.

The market response was relatively muted, suggesting investors were looking for clarity on the Fed’s inflation strategy and confidence that policymakers would follow through. The chart below highlights changes across key interest rate markets since the September decision. The 2-year Treasury yield rose just 7 basis points to 4.73%, while longer maturities rallied, with the 30-year Treasury yield falling 6.8 basis points, resulting in a flatter yield curve. Inflation expectations also moderated, as 10-year breakevens declined alongside easing energy prices. Meanwhile, December 2027 SOFR futures increased only 7 basis points to 4.70%, implying roughly three additional rate hikes from current levels. Given the pace of repricing already embedded in forward markets, that path appears largely reflected in current valuations.

The Fed does not influence economic activity through the policy rate alone. The true transmission mechanism is financial conditions, which reflect how changes in monetary policy ripple through interest rates, equity markets, credit markets, and currencies. By that measure, the September rate hike had a surprisingly modest effect. As shown in the Bloomberg Financial Conditions Index, conditions tightened only marginally following the Fed’s decision relative to the July FOMC meeting and the onset of the Iran war.

In fact, as we discussed in late July, much of the tightening following the July meeting was delivered by the market itself rather than the Fed. Long-term Treasury yields moved sharply higher as investors priced in a more persistent inflation outlook and higher long-run policy rates, creating a meaningful tightening in financial conditions even without an increase in the federal funds rate. Markets appear to have absorbed the September hike with relatively little disruption.