It’s crunch time for the Fed. Will they cut rates by 50 bps? The market certainly thinks so, at least this week. Just a fortnight ago, such a cut seemed off the table, but sentiment has shifted dramatically.
The market has been highly sensitive to data, particularly inflation figures. Core inflation picked up in August, which dampened hopes for a 50 bps cut. However, this week job market figures continued to decline, which has reignited the case for a 50 bps cut. Former Fed president Dudley also voiced his support for a 50 bps cut on Thursday, giving the market the impetus to sell the dollar, benefiting bonds, gold and the yen.
However, the crucial question remains: by how much will the Fed actually cut rates? They’re still weighing inflation risks against labor market conditions. Many analysts argue that the market has aggressively overpriced a 50 bps cut, believing the Fed will opt for a more modest 25 bps reduction. If this proves true, we should expect some volatility, with those anticipating a 25 bps cut feeling vindicated.
As of Friday, the CME FedWatch Tool showed it’s neck and neck between a 50 bps and 25 bps cut, with traders essentially split on which way the Fed might lean.
Friday saw gold reach an all-time high of $2,584, while USD/JPY hit a new low for the first time since December 2023, closing at 140.77. Other major currencies, including the pound and euro, also rallied against the US dollar, though much of these gains faded towards Friday evening as the greenback regained some ground.
Treasuries joined the rally, with yields on 10-year notes falling to 3.655%. Stocks also had a positive end to the week, with both the Dow and the S&P 500 within touching distance of all-time highs. The Nasdaq advanced by 0.49%, closing at 19,491.
With the market on edge, next week promises to be volatile as traders await the Fed’s decision.
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