Wall Street is paying the price for a rate hike that won't happen, as differences in expectations are brewing reversal opportunities in interest-rate-sensitive industries.

TikStocks founder Robert Ross believes the market’s interpretation of the Fed’s rate hike path may have systematic bias.

Several institutions including Bank of America forecast that the Fed may raise rates up to three times in 2026, with market consensus favoring increases of 25 basis points each in September, October, and December.

The response from the bond market, however, is markedly different. Last week, US May core PCE year-over-year rose 3.4%, hitting a three-year high. Yet the 2-year US Treasury yield, which is most sensitive to the federal funds rate, fell instead of rising, implying investors believe the worst inflation expectations have already been priced in.

The crux of this divergence lies in the possibility that newly appointed Fed Chair Walsh may use an inflation assessment framework that is quite different from mainstream market thinking. If the market’s interpretation of the Fed’s policy stance is off, rate-sensitive sectors like real estate, utilities, and technology may face major revaluation opportunities.

Walsh’s Preferred Inflation Indicator: May Trimmed Mean PCE Only 2.4%

Traditional core PCE excludes food and energy items, but may still be distorted by abnormal price swings in a few categories. The Dallas Fed’s “trimmed mean” PCE further removes the most extreme price changes at both ends each month, aiming to offer policymakers a purer read on underlying inflation.

Currently, the divergence between these two indicators is quite notable: May PCE year-over-year is 4.1%, while trimmed mean PCE is only 2.4%.

Walsh explicitly stated at this spring’s Senate confirmation hearing that he prefers using trimmed mean PCE as the inflation benchmark, rather than the core PCE usually tracked by markets.

This means that, measured by Walsh’s favored metric, the current US inflation situation is far less severe than surface numbers suggest, and the market’s hawkish expectations for his policy stance may be overestimated.

Fed Officials Lean Dovish; Rate Hike Case Weakens

Public statements from several Fed voting members also diverge from market expectations for rate hikes.

New York Fed President John Williams said inflation is expected to “gradually decline” over the next few quarters, and believes the current monetary policy stance is well positioned to achieve this goal.

St. Louis Fed President Christopher Waller said in last month's speech that he is “ready to be patient in maintaining the current restrictive policy stance.” Notably, Waller made this comment when international crude oil was around $96 per barrel; now oil is down to $70 per barrel, which will further ease inflation pressures.

Overall, if Walsh shifts the Fed’s policy framework from core PCE to trimmed mean PCE, the inflation outlook would immediately appear much milder. With falling inflation expectations, a strengthening dollar, and policy rates still restrictive compared to most developed economies, the argument for starting a new rate hike cycle is increasingly untenable.

Rate Hike Expectations Fade; Rate-Sensitive Sectors May Face Revaluation

This does not mean a rate cut is imminent. But for the current US stock market, this logic shift could constitute an overlooked potential catalyst for upside.

Current rate hike fears have been partly priced into valuations, which has especially suppressed rate-sensitive sectors like real estate, utilities, and technology. Once markets realize the anticipated hikes may not happen, this risk premium will gradually be repriced.

In other words, if the rate hike camp’s judgment proves mistaken, previously lagging sectors dragged down by rate anxiety could become the leading force in the market’s next upward phase.

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