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The Fed and the market are having a hard time getting on the same page

Federal Reserve officials want investors to believe that every meeting is a live one, with the possibility always there that the central bank will hike interest rates in response to financial conditions.

The market, though, is unconvinced, particularly as it concerns the March meeting, which in some sense could be the Fed's most important of the year.

Chatter lately from Federal Open Market Committee members is that March is on the table for the first hike since December.

In congressional testimony last week, Chair Janet Yellen dropped a hawkish hint, saying it would be "unwise" to wait too long to hike. Philadelphia Fed President Patrick Harker, an FOMC voter, late last week told Market News International that he would not rule out a rate increase. And nonvoter Loretta Mester of Cleveland continued her pro-hike rhetoric, saying she believes an increase would be appropriate if the economy stays on track.

All of the tightening Fedspeak, though, did little to move the markets.

Fed funds futures trading points to a less than 1 in 5 chance of a March move, only a little more than where the probability sat before Yellen's speech, according to the CME's tracking tool. The market still believes the next most likely hike is June, with the next best chance in November or December. Traders estimate about a 43 percent of three increases this year.

Investors on Wednesday will get a clearer peek inside the minds of U.S. central bankers when the Federal Open Market Committee releases the minutes of its Jan. 31-Feb. 1 meeting.

The March meeting is so important because if the Fed should approve a hike, it would set the tone for the year, sending a pretty unambiguous signal that monetary policy will be tighter than what the market anticipates.

Amid sharply higher business and consumer sentiment, a new president looking to spend big on public works projects and a market that continues to breach new highs, the fallout could be significant.

Worrying about the dollar, and the data

"A March hike would be markedly hawkish as it would drive markets to price in up to four hikes this year from two-and-change today, more than the three hikes even relatively hawkish FOMC participants are indicating as their baseline for 2017; among other things, this would risk a renewed dollar surge," Krishna Guha, head of global policy and central bank strategy at Evercore ISI, said in a note to clients.

Fears of a jump in the greenback have served as an ominous backdrop for the market ever since the post-election stock rally began. However, the dollar actually has edged lower against its global competitors in 2017.

Similar warnings have come elsewhere in the market; Mohamed El-Erian, chief economic advisor at Allianz, told CNBC that a rise in the dollar would threaten the rally. An unexpected move by the Fed could jolt currency markets and reverse the business optimism that has prevailed since Donald Trump won the presidency.

"We think the FOMC will be cautious about putting too much weight on easier financial conditions and the revival in animal spirits, due to wariness that the 'Trump bump' could reverse amid ongoing turmoil and legislative strain in Washington," Guha added.

The Fed does face some pressure from economic data.

The consumer price index rose 0.6 percent in January, its sharpest monthly move in nearly four years, putting the annualized increase at 2.5 percent. The Atlanta Fed's "sticky" CPI indicator of items with prices that tend to hold steady longer is at 2.6 percent, the highest reading since August and second-highest since April 2009.

Moreover, the Chicago Fed's National Financial Conditions Index is at -0.82 percent, its lowest since November 2014. The lower the reading on the index, the more relaxed conditions are, with anything below zero indicating loose conditions.

So while Guha does not think the Fed will move in March, he does believe there could be a surprise in store — with a May hike.

Fed watchers generally believe the bank only will hike at meetings where Yellen has a news conference scheduled for afterward, which is not the case with May. However, she has made clear that an impromptu gathering for the press could be called at anytime.

"A May hike would firm up a three hike baseline for 2017 — leading to a slightly tighter but not much tighter market rate path, which we think would be warranted based on the data but need not lead to a sharp move in the dollar or financial market conditions," Guha said.

Indeed, the market believes that to be a possibility. There is currently a 48.8 percent chance of a May hike priced in — almost a coin flip.

Investors likely won't have to guess, though, whether the Fed will go in May.

"In these unsettled and politically polarized times we would expect the Fed leadership to prepare the ground for the next hike carefully," Guha said.