For the global financial markets, tonight is destined to be a sleepless night
According to the schedule, the Federal Reserve is scheduled to announce its September interest rate decision at 2:00 am Beijing time on Thursday. At present, it is widely expected in the industry that the Federal Reserve's announcement of its first interest rate cut in four years at this meeting is almost certain.
However, at the same time, this is also the most mysterious or uncertain Federal Reserve interest rate night in recent years: although the market has collectively recognized that the Fed will cut interest rates this month, there is still intense controversy and disagreement over how much Fed policy makers will cut interest rates - whether to cut interest rates by 25 basis points in a more traditional way or take a more aggressive first step of easing by directly cutting interest rates by 50 basis points.
All of this indicates that the market volatility during tonight and even Thursday's Asian session is bound to be unpredictable!
The biggest suspense tonight: whether to cut interest rates by 25 or 50?
If we compare the drastic changes in expectations before tonight's Federal Reserve decision with the experience of past Fed interest rate discussions, it may be difficult for people to find a similar one. But if we look at the world, there is actually a case that is very similar to tonight - the decision of the Bank of Japan in July (one of the culprits that triggered the "Black Monday" in Japanese stocks in August).
Before the decision of the Bank of Japan, the mainstream expectation in media surveys was that the Bank of Japan would remain inactive. However, on the eve of the decision, Japanese media, as the "mouthpiece" of the Bank of Japan, suddenly announced that the Bank of Japan would raise interest rates, which quickly triggered bets in the interest rate futures market to move towards a rate hike. The Bank of Japan ultimately "unexpectedly" but not unexpectedly raised interest rates to 0.25%.
And this time, the market's prediction of the Fed's interest rate change is almost the same: after the release of heavyweight economic data such as non farm payroll and CPI, and the Fed officially entering a period of silence, mainstream expectations still firmly believe that the Fed will only cut interest rates by 25 basis points this week. However, since last weekend, with the famous journalist Nick Timiraos and his colleagues, known as the "New Federal Reserve News Agency", repeatedly stating that "the magnitude of the first interest rate cut is still uncertain", "the Fed should cut interest rates by 50 basis points this month", and senior figures such as former New York Fed Chairman William Dudley calling on Fed decision-makers to take more aggressive action, the possibility of a 50 basis point interest rate cut has actually occupied the eve of tonight's interest rate day. Got the upper hand.
(Nick Timiraos and his colleagues have been "pacing" continuously in the past few days, essentially building momentum for a 50 basis point rate cut)
The following comparisons may reflect the "dramatic" changes in the market's expectations for the magnitude of interest rate cuts at the Federal Reserve's meeting:
In terms of media surveys, only 9 out of 114 institutional economists surveyed by Bloomberg expect the Federal Reserve to cut interest rates by 50 basis points tonight, while the vast majority (105) of surveyed economists believe that the Fed will "only" cut interest rates by 25 basis points. The survey results of relevant media are actually the expected values of interest rate changes seen by many Chinese investors in the financial calendar of domestic media tonight.
Generally speaking, such one-sided media survey expectations have already locked in the Federal Reserve's 25 basis point interest rate cut tonight. But investors who have followed the overseas market trends during the Mid Autumn Festival clearly know that the expected value of the survey mentioned above is actually seriously "outdated" compared to the expected changes in real-time interest rate futures or swap markets.
For example, the "Federal Reserve Watch Tool" of the Chicago Mercantile Exchange currently shows that traders in the interest rate futures market have predicted a 64% probability of the Fed cutting interest rates by 50 basis points tonight, while the probability of a 25 basis point rate cut has shrunk to 36%.
In addition, according to industry aggregated data, the number of open contracts for October federal funds futures that investors use to bet on this week's Federal Reserve interest rate meeting has jumped to its most extreme level since the derivative was introduced in 1988. And most of these new bets are betting that the Federal Reserve will cut interest rates by 50 basis points this month, with a particularly significant surge in related positions since the beginning of this week - new positions in the past two trading days accounted for almost one-third.
Given that Federal Reserve officials are currently in a period of silence where they are unable to speak publicly before the interest rate decision, many market participants have actually seen articles by Nick Timiraos and others as the Fed's covert "show of confidence". Therefore, tonight's Federal Reserve decision is almost destined to be very "interesting": if the Fed cuts interest rates by 50 basis points, it will be a result that does not meet the general expectations of media surveys, and the market will inevitably "shake". If the Fed cuts interest rates by 25 basis points, it will be "contradictory" to the position layout of the interest rate, bond, and stock markets in the past few days, and it will trigger a "big earthquake" in the market
As the well-known financial blog website Zerohedge has stated, the market is destined to encounter an "unexpected" tonight. This is not only due to differences in people's expectations for a 25 basis point and a 50 basis point rate cut, but also because the gap between the current market consensus (nearly 70% believe in a 50 basis point rate cut) and the predictions of economists (92% believe in a 25 basis point rate cut) has never been so large.
In fact, even within the Federal Reserve tonight, there may still be some controversy over the decision to cut interest rates by 25 basis points or 50 basis points. An interesting aspect is that until the latter part of last week, investors had expected the Fed's interest rate cut to be only 25 basis points, as few officials publicly called for a larger rate cut. But as we have previously introduced, within the current Federal Reserve, Chairman Powell may be a "dove" who hopes to implement loose policies with greater force. The recent media coverage of the Federal Reserve and the shift in market expectations may not necessarily be the result of intense internal competition within the Fed.
Former Dallas Fed President Kaplan said on Tuesday, "I guess there are differences of opinion between them. Some of you here share the same feeling as me, feeling that their actions are a bit late. They hope to take the first step and are not willing to spend the fall chasing the economy. And from a risk management perspective, there are still some people who just want to be more careful
The key issue they faced at this meeting was their understanding of risk balance. If they are now more concerned about growth and employment rather than inflation, they are likely to want to be more secure and cut interest rates by a larger margin of 50 basis points, "said William English, a former senior advisor to the Federal Reserve.
Don't forget to pay attention to the dot matrix chart except for the magnitude of interest rate cuts
In addition to the suspense of whether the Federal Reserve will cut interest rates by 25 basis points or 50 basis points, there is another key point tonight that investors cannot ignore - that is, as a resolution at the end of the season, the Federal Reserve will also release the latest "Economic Forecast" (SEP), which covers the expectations of Federal Reserve officials for the economy, inflation, and unemployment rates in the next three years, including the famous interest rate dot matrix. The latest SEP will include forecasts for the years 2024 to 2027.
In the dot matrix, each Federal Reserve official will list their views on the direction of interest rates in the coming years on a chart. And tonight, Federal Reserve officials' predictions on where interest rates will fall by the end of the next two years are likely to be as important as the specific rate cuts made by the Fed this time.
In the June pie chart, FOMC members only expected to cut interest rates once before the end of the year - a prediction that is almost certain to be updated as market pricing has already reflected up to five 25 basis point rate cuts, totaling 125 basis points, with only three meetings left.
In addition, according to the Chicago Mercantile Exchange's Federal Reserve Watch tool, traders currently expect the Federal Reserve to further significantly lower interest rates next year, lowering the current benchmark rate by 250 basis points before stopping the rate cuts. By September next year, interest rates will fall below the critical 3% integer level.
Some economists suggest that the more important issue at this meeting, compared to the magnitude of the first interest rate cut, may be how low the Federal Reserve will ultimately lower interest rates and how long it will take to achieve this goal. Some analysts, including Wilmington Trust Chief Economist and former Federal Reserve official Luke Tilley, predict that the Fed will cut interest rates more aggressively, lowering rates to 2.5% next year.
Citibank economists say that based on the level of anxiety at the Federal Reserve, the central bank is likely to make at least multiple 50 basis point rate cuts in the coming year.
It is worth mentioning that there is currently a huge "gap" between the latest interest rate market expectations and the Federal Reserve's June chart, with a gap of up to 125 basis points between the position of interest rates at the end of next year (red arrow in the figure below). If the downward shift of the September chart is not enough, it may also trigger a risk shock wave in the entire market.
In other aspects of the Economic Forecast, the industry currently expects that the biggest adjustment made at this meeting may be in the unemployment rate. The FOMC is almost certain to raise this year's unemployment rate from the 4.0% forecast in June, as the current unemployment rate has already reached 4.2%. The June forecast predicts a core inflation rate of 2.8% for this year, but this number may be lowered as the core inflation rate in July has fallen back to 2.6%.
Note: Economic forecast at the Federal Reserve's June meeting
Goldman Sachs economists stated in a report that "inflation seems to be lower than the FOMC's forecast in June, and the high inflation at the beginning of this year is becoming more like a seasonal residual impact rather than a re acceleration. Therefore, a key theme of the meeting will be to shift the focus to labor market risks
What are the highlights of the Federal Reserve's statement and Powell's press conference?
In addition to adjusting the Economic Forecast, the FOMC's post meeting statement is bound to be modified to reflect the arrival of interest rate cuts, and the committee may also add or modify some forward guidance. Some industry insiders suggest that there may be several changes in the wording of the Federal Reserve's statement, including wording around the risk balance between employment and inflation.
Goldman Sachs expects that the Federal Open Market Committee "may revise its statement to have more confidence in inflation, describe inflation and employment risks as more balanced, and once again emphasize its commitment to maintaining full employment
Macro Policy Perspectives strategists Julia Coronado and Laura Rosner Warren also stated that the FOMC may adopt a statement similar to that used by Governor Waller on September 6, stating that "the risk balance has shifted towards our dual task of employment
However, Simons, an economist at Jefferies, pointed out, "I don't think they will give any specific forward guidance. At this stage of the cycle, forward guidance is actually not very useful because the Federal Reserve doesn't really know what it's going to do
Finally, considering that any interest rate cut by the Federal Reserve tonight could trigger severe market volatility, how Federal Reserve Chairman Powell will demonstrate his "rhetoric" to appease the market at the 2:30am press conference on Thursday Beijing time may also be a major point to watch tonight!
Many industry insiders have stated that Powell's explanation of the magnitude of the interest rate cut (such as 25 basis points or 50 basis points) will affect the volatility of the financial market tonight. If he implies in his speech that the Federal Reserve is prepared to further cut interest rates or expresses concerns about economic risks, the market may adjust its investment strategy accordingly.
BI strategists Ira F. Jersey and Will Hoffman suggest that if the Federal Reserve's interest rate outlook changes, the short-term interest rate market may quickly adjust after the initial reaction. But the biggest possibility is still that Powell emphasized at the post meeting press conference that he will continue to "rely on data".
Given that there is only one and a half months left until the November election in the United States, if the Federal Reserve really cuts interest rates by 50 basis points tonight, Powell's response to the controversy about his decision potentially interfering with the election situation may also receive attention.
Prior to this, some industry insiders had called on the Federal Reserve to try to avoid affecting the election and cut interest rates as early as possible (such as in July). However, if the Federal Reserve were to cut interest rates by 50 basis points at the last meeting before the election tonight, it could inevitably trigger criticism from Republicans represented by presidential candidate Trump. As for the Democrats, they are currently openly calling on Powell to cut interest rates by 75 basis points in one go tonight