Inflation isn't done, and rate volatility is rising

Key takeaways

• Expect interest rates to stay volatile, and manage that risk before it forces your hand.

• Inflation has been above the Fed's 2% target for 67 straight months and rose again in September. It is broad and increasingly driven by demand.

• The Fed is saying less about what comes next and will soon meet less often to set policy, so each decision will carry more weight. Bond market volatility is already higher than the inflation data alone would explain.

The Federal Reserve held rates steady at its October meeting and announced plans to hold fewer rate-setting meetings going forward. With inflation remaining above target and broadly distributed across the economy, fewer policy signals from the Fed could contribute to greater market volatility. For borrowers and investors, our message is simple: expect rates to keep moving and proactively manage your risk.

67 months above target

The last time the Fed's preferred inflation gauge, the PCE price index, was at or below its 2% target, Tom Brady had just won his seventh Super Bowl. That was February 2021. Inflation has come close only once since, reaching 2.26% in September 2024 before it turned back up. The September reading released this week rose to 3.7%, or 3.1% excluding food and energy, both higher than in August. Fed Chair Kevin Warsh acknowledged inflation has been running above target "for close to six years." The longer that continues, the greater the risk that 3% starts to feel normal—which makes it much harder to bring down again.

Figure 1. PCE inflation, 12-month change

Most measures say the same thing

No single number captures inflation, in the same way a good doctor wouldn't judge your health on your blood pressure alone. We track 46 measures, from consumer and producer prices to wages and inflation expectations, giving each one its own 2%-equivalent target based on how it behaved from 2012 to 2019.

Today, 37 of the 46 are above their equivalent targets, and 18 are far above it. Even when core PCE has been right at 2%, some measures sit above target; in those months, the share has averaged about 57%. Today it is 80%, a level reached in only 7 of the 91 such months since 2000.

Figure 2. Share of measures above their 2%-equivalent target

Energy is only part of the story

Energy prices get the attention because everyone sees them on the sign at the gas station, and in the headlines, and Warsh noted this week that prices rose again. But even with energy prices up about 20% from a year ago, energy accounts for only about 0.8 of the 3.7 points of PCE inflation.

Figure 3. Contributions to PCE inflation, percentage points

The Fed's stated goal is to make sure price increases in some sectors do not "broaden out across the economy." By our measures, that has already happened. Nearly half of the roughly 200 categories in the PCE index are rising faster than 3%, up from about a quarter of the categories in 2019. Services excluding housing, the labor-heavy part of the economy (think car repairs, restaurant meals, and medical visits), are rising at 3.6%, against an equivalent target of about 2.5%.

Demand is doing more of the work. The San Francisco Fed estimates that, as of August, demand-driven price increases were adding about 1.2 points to core PCE inflation, double their 2012–2019 average. Warsh pointed to the same strength this week: business investment is likely rising at about a double-digit pace, led by high-tech spending.

The Fed is saying less, and will soon meet less

As mentioned above, last week the Fed held rates steady after raising them in September. Two policymakers dissented in favor of another increase, a sign the committee itself is divided on what comes next. The Fed’s official statement offered no forward guidance (signals about where rates are headed), saying only that more information will help determine the right policy. And since Warsh took over in the spring, the Fed has been shifting which inflation measures it emphasizes to better capture how people are spending and to ignore temporary price spikes.

It is also changing how often it sets policy. Starting next fall, one of the Fed's eight meetings in 2027 will focus only on strategy, with no rate decision or statement planned, and Warsh expects two such meetings in 2028. With less guidance between meetings and fewer scheduled rate decisions and statements, each remaining meeting carries more weight. However, last week offered a preview: the MOVE index, a measure of expected bond market volatility, fell from about 102 to 95 over the two days of the Fed's meeting as one source of uncertainty passed. With fewer of those release points, we expect uncertainty to build for longer between meetings and greater market volatility surrounding each announcement.

Guidance matters. In mid-2021, half of these measures were already far above target, yet the bond market stayed calm because the Fed had said rates would stay near zero. When the Fed changed course, volatility more than doubled.

Volatility is already higher than the data explain

The ICE BofA MOVE index, the bond market's version of the stock market's VIX "fear gauge," rose from a mid-70s average in early September to an October average reading of 102—higher than any single day from 2016 to 2019. A model using only information available at the time, the inflation data and the Fed's recent rate moves, would have put October's MOVE at about 85. Since 2010, the model has missed by this much or more in only about one month in nine. Even after easing following this week's meeting, the index remains above that level. The Fed noticed, too: Warsh said markets "showed bouts of volatility and shifting correlations."

Figure 4. MOVE index, actual and explained by inflation data and Fed rate moves

Be proactive

In light of the current market backdrop, here’s what we recommend:

1. Hedge as soon as you're confident in the exposure. Waiting until closing or maturity is itself a bet on rates, a bit like holding off on booking a flight while fares are jumping around. The 2-year Treasury yield has recently moved as much as 16 basis points in a single day (one basis point is 0.01%), and every 25 basis points on a $100 million, five-year financing adds about $1.25 million in cumulative interest.

2. If being wrong would be costly, pay for protection. If the underlying deal or financing might not happen, a locked-in hedge can become a liability of its own. Options such as interest rate caps and swaptions work like insurance: pay a premium up front and you're protected if rates spike, with no obligation beyond the premium. Deal-contingent hedges do something similar, with no obligation should the deal fall away.

3. Decide using today's rates. It's natural to anchor on where rates were when a deal was first modeled, the way a homebuyer remembers the mortgage rate they were quoted last spring. But markets don't care about your budget. The useful question is what today's rates mean for your plan, and how much risk you can tolerate from here.

Inflation is broader than the headlines suggest and the Fed is giving markets fewer signals about what comes next. Plan for rates that keep moving and actively set your plan to manage the resulting risk.

 Methodology: Each measure's 2%-equivalent target is 2% plus its average gap to core PCE from 2012 to 2019. The "near 2%" comparison averages months since 2000 when core PCE was within 0.25 point of 2%. The model behind Figure 4 relates next-month MOVE to inflation pressure, disagreement across 32 of the measures with history back to 2004, and recent Fed rate moves, and is refit each month using only data available at the time (2004–2026). Supply- and demand-driven inflation: Federal Reserve Bank of San Francisco. Fed quotes: FOMC statement and Chair Warsh's press conference opening statement, October 28, 2026 (preliminary transcript). Data: BEA, BLS, Federal Reserve Board, regional Federal Reserve Banks, University of Michigan, FRED; MOVE index from ICE via Bloomberg.