Federal Reserve: Further tightening expected despite political shift – TD Securities

TD Securities analysts argue that despite a changed political backdrop after a Democratic blue wave, the Federal Reserve is still likely to deliver additional tightening. They expect 50 basis points of further hikes by Q1 2027, while noting potential turnover at the Fed, evolving hawkishness from Chair Warsh, and conditional scenarios where easing Iran tensions or weaker AI investment could cap tightening.

Blue wave reshapes but does not halt hikes

"While the political landscape has changed, the macro environment remains somewhat uncertain regarding the outcome of the Iran War and the outlook for AI investment. We remain confident, however, that the Fed will continue tightening policy in the near term, implementing an additional 50bp of rate hikes through Q1 2027. If the midterm elections result in finding closure on the Iran War and/or the paring back of AI investment, the Fed might not need to tighten policy any further after March."

"With the changing political landscape, Warsh might turn more hawkish just as the Committee shifts more dovish next year. The outcome of the Iran War and the outlook for AI investment will determine how much tightening the Fed needs to implement. We still look for 50bp of further rate hikes."

"Less acute political pressures on the Fed might allow for turnover in the Committee. Powell might finally decide to retire. The risk is that Trump does not appoint replacements, letting the Fed run understaffed."

"While the AI trade, debt ceiling, fiscal policy, and bank regulation will be closely watched, we expect markets to re-focus on macro fundamentals as inflation remains too high, and the economy remains firm. This could keep both rates and volatility elevated."