BofA Warns: Fed Rate Hike Terminal Rate Could Return to 5.5%, Recommends Shorting 2-Year Treasuries
nashnova research
Fed Chair Kevin Warsh called the latest 25 bp hike a removal of 'a dose of accommodation.' Bank of America warns rate markets still underestimate the hiking endpoint — the fed funds rate could revisit 5%+ — and recommends shorting 2-year Treasuries.
What did Warsh say, and why are markets rattled?
Fed Chair Kevin Warsh hiked 25 basis points on September 16 and framed the move as removing "a dose of accommodation."
This means → In Warsh's view, the current rate level is not yet restrictive — he is merely clawing back earlier easing, implying more hikes ahead.
Warsh reiterated dissatisfaction with the inflation trajectory and stressed the Fed's commitment to price stability, but made no specific forward commitment.
What is BofA's core call?
BofA strategists Mark Cabana and Meghan Swiber note that interest-rate swaps currently imply only three more 25 bp hikes, putting the effective fed funds rate at 4.5%–4.75%.
BofA considers that pricing too low: overnight borrowing costs could revisit 5.5% — the peak of the 2022–2023 hiking cycle.
In plain terms = the market thinks three more hikes will be enough; BofA thinks rates may need to reach last cycle's high before the Fed stops.
What supports a 5%+ endpoint?
The Fed's latest Summary of Economic Projections (SEP) shows officials see upside inflation risk as far greater than upside unemployment risk.
The Taylor Rule — a formula that recommends a policy rate based on how far inflation and the output gap deviate from target — currently points to a fed funds rate around 5.3%.
The strategists conclude: "A Fed that does not believe policy is restrictive may keep hiking until financial conditions become restrictive."
What trade does BofA recommend?
BofA recommends shorting 2-year Treasuries, projecting the yield rises from roughly 4.7% to 5%, with a target of 5.25% — near the 2023 peak.
On the long end, pass-through is more limited: 10-year Treasury yields are expected to finish the year near 5%.
This means → BofA expects the yield curve to flatten further: the short end rises more than the long end, putting greater pressure on short-dated debt.
Do BofA's own teams agree?
The call above comes from BofA's rates strategy desk (bond markets and trading). It diverges from the bank's economics team.
Chief U.S. economist Aditya Bhave maintains his baseline: one hike each in October and December, with no further action in 2027.
In plain terms = the two teams roughly agree on the number of hikes, but disagree sharply on where rates ultimately stop — the strategists are markedly more aggressive.
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