Source: Jinshi Data

Inflation swap contract trading shows that investors are betting that Trump tariffs will significantly push up consumer prices in the short term, but the impact will gradually fade in the coming years as recession concerns intensify.

This financial instrument used to hedge the risk of price increases has reached US$1.3 trillion in liquidation at the London Clearing House (LCH) since this year, and has surged due to tariff uncertainty since Trump took office on January 20.

The "peer-to-peer tariffs" announced in the early hours of Thursday. Although no specific details were announced, analysts expect automotive, semiconductor, wood and pharmaceutical products to be the first to bear the brunt. Under this expectation, the US one-year inflation swap rate soared to a two-year high of 3.07% last Friday, meaning investors expect the average year-on-year growth rate of CPI in the next 12 months to reach 3%, higher than 2.8% in February. In contrast, the two-year and three-year swap rates were 2.84% and 2.42% respectively, indicating that the market believes that inflation will gradually decline after soaring.

"In order to transfer tariff costs, enterprises will trigger a one-time jump in price levels," Ryan Swift, chief bond strategist at BCA Research, analyzed. "But in the medium term, tariffs will curb manufacturing activity and ultimately lead to inflation below the original level - which essentially reflects recession expectations." Although the recession is not the benchmark scenario for most banks, the possibility has increased significantly. Goldman Sachs' latest report raised the probability of a 12-month recession from 20% to 35%, and JPMorgan Chase also gave a 40% estimate.

Another inflation expectation indicator—the break-even inflation rate in the Treasury Inflation-Standard Securities (TIPS) market—is also showing a similar trend. On Tuesday, the one-year break-even inflation rate was 3.4%, and then declined year by year.

But Phoebe White, head of U.S. inflation market strategy at JPMorgan Chase, believes that this expectation may underestimate the actual impact: "If the economy maintains moderate growth and the supply shock from tariffs, the short-term inflation impact will exceed market pricing and last longer." She warned that the tariff announcement in the early hours of Thursday may just be the beginning and that subsequent measures may affect more economic areas.

Citi Rate strategist Raghav Datla believes that the impact of inflation will be gradual and the market is currently in a "waiting and watching state." Since the 25% auto import tariff was announced on March 26, the one-year inflation swap interest rate has risen by only 13 basis points, indicating that the market's response to large-scale tariffs is flat. "These tariffs are considerable in scale and have a wide coverage, which will impact multiple sensitive areas of the economy."

George Bory, chief strategist at Allspring Global Investment Fixed Income, said, "The concerns about continued high inflation are indeed grounded."