Arif Husain, Head of Global Fixed Income and Chief Investment Officer at T. Rowe Price, shares his views on the potential long-term market implications of the Federal Reserve’s policy direction under its new chair.
At his Senate confirmation hearing, Fed Chair Kevin Warsh advocated structural changes to how the central bank manages monetary policy. His stated aims include reducing the size of the Fed’s nearly US$7 trillion balance sheet and eliminating the dot plot and other forms of forward guidance. Since the global financial crisis, large-scale quantitative easing, substantial liquidity injections, and forward guidance have helped anchor inflation expectations and suppress volatility across rates, credit, and equity markets. Over the medium to long run, we believe moving away from these tools could have the broader consequence of increasing average levels of both implied and realised market volatility.
As the Fed considers reducing its balance sheet and scaling back forward guidance, we believe investors may need to prepare for a different regime characterised by greater uncertainty, less constrained volatility, and asset prices that are more sensitive to economic data and policy developments. Strategies that have benefited from the low-volatility backdrop of the post-global-financial-crisis era could therefore face increasing challenges in the years ahead.
We believe a renewed effort by the Fed to reduce its balance sheet, especially after the central bank ended its latest quantitative tightening programme in late 2025, could prompt markets to reassess the long-running expectation of falling volatility. Removing forward guidance, including the dot plot, could have a similar effect by obscuring the Fed’s monetary policy outlook and widening the range of possible market outcomes.
The dot plot has helped reduce expectations for more extreme policy outcomes. If investors receive less guidance on the Fed’s reaction function, rates markets could become more sensitive to incoming data, policy signals, and shifts in inflation expectations.
We believe the desire to shrink the Fed’s balance sheet may also sit uneasily alongside the government’s preference for keeping interest rates as low as possible. Efforts to suppress yields can distort government bond markets and keep volatility lower than it otherwise might be.
In our view, the combined effect of balance sheet reduction, reduced forward guidance, and potential tensions between monetary and fiscal objectives is likely to be higher volatility over the medium term and beyond. Volatility may first appear in rates markets before spreading into credit and, ultimately, equities.
Falling or constrained volatility has underpinned many successful investment approaches over the past decade or more. We believe the next decade is unlikely to look the same. Investors may therefore need to reassess strategies that rely heavily on a continuation of the low-volatility environment that followed the global financial crisis.
