Estimating Fed Rate Hikes from Eurodollar Futures
Summary
The document explains a simple way to infer the number of expected Federal Reserve rate increases from a deferred Eurodollar futures contract. The example compares the implied three-month LIBOR rate from the December 2019 contract with the current three-month LIBOR rate, then divides the difference by a standard 25-basis-point hike. With the figures given, this produces an estimate of four increases. The calculation offers a rough market-implied measure rather than a direct count of expected policy actions.
The caveat is that LIBOR is only a proxy for the Fed funds target, and the method relies on simplifying assumptions. Eurodollar futures can express interest-rate views because they are liquid, but the document notes that Fed funds futures or meeting-period overnight index swap rates are more direct tools for estimating policy expectations. If the LIBOR/OIS basis is stable, a move in the Eurodollar strip may approximate a similar OIS move, which can be translated into a fraction of a 25-basis-point hike.
Key ideas
- Infer a rough hike count by comparing a deferred Eurodollar futures implied rate with current three-month LIBOR.
- Divide the rate difference by 25 basis points to express it as an equivalent number of standard hikes.
- LIBOR serves only as a proxy for the Fed funds target, so the estimate depends on simplifying assumptions.
- Fed funds futures and meeting-period OIS rates are more direct gauges of expected policy changes.
- A stable LIBOR/OIS basis lets Eurodollar strip moves approximate OIS changes.
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Full text
# How did traders calculate that the expected number of rate hikes is 4 based on eurodollar futures on 15Feb2018? # How did traders calculate that the expected number of rate hikes is 4 based on eurodollar futures on 15Feb2018? https://www.bloomberg.com/news/articles/2018-02-14/bond-traders-swarm-2019-fed-hike-bets-after-inflation-surprise > After a Wednesday report showed consumer prices rose in January by more than projected, traders used eurodollar futures to express their view that central bankers have a clearer path to tighten. The expected number of increases from now until the end of next year is up to four, from 3.6 before the inflation report. ## Answer by Lliane (score 4, accepted) https://quant.stackexchange.com/a/38249 Yield of Dec19 Future - Current 3Months Libor / 25 bps (1 rate hike) Libor 3M = 1.84 % Price of Dec 19 Future (Ticker EDZ9) = 97.18 = 2.82 % Number of hikes = (2.82 - 1.84)/0.25 = 4 Please note these are very simplifying assumptions, as the 3 months Libor is just a proxy on the Fed Funds Target rate. ## Answer by Attack68 (score 1) https://quant.stackexchange.com/a/38338 In my experience Chinese whispers between IR traders and bank/institution strategy/researchers and then journalists is rife. Hikes/cuts are predicted by traders based on FedFund futures or meeting period FFOIS rates. The same goes for GBP or EUR where the OIS rates dictate the probability of hikes/cuts. Note that your quote didn't directly say the expected number of increases was calculated from the eurodollar futures. It said they were used to express a view. Which is sensible because they are a very liquid product with minimal execution cost. But they are a proxy to bank rate as Lilane states. As an aside if you assume that the LIBOR/OIS basis is stable over a short period of time and the Eurodollar strip moved 10bps, you can assume the OIS strip moves 10bps also which accounts for 10/25= 40% of a 25bp hike.
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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.