- Over the past few days, traders have lowered the probability of a Fed rate cut at this week’s meeting. At the beginning of September, traders were almost certain that there would be a rate cut.
- However, strong economic data has made traders re-access their bets.
Fed rate cut probability
The Fed’s meeting is scheduled to start today. At the beginning of September, a Fed rate cut was thought to be a done deal. The Fed lowered rates at its July meeting for the first time in almost a decade. However, Fed Chair Jerome Powell spooked the markets with his comments on future Fed rate cuts. Since then, Powell’s comments have shown that the Fed is amenable to a rate cut.
Lower rate cut probability
According to CME, over the past few days, traders have lowered their probability of a Fed rate cut this month. Read Federal Reserve Meeting: Can the Party Continue? to learn more. Strong economic data, especially the inflation reading, made traders reprice their bets on a Fed rate cut. Also, there has been a palpable de-escalation in the US-China trade war. Both sides have taken measures to calm down the situation after last month’s escalation.
At the July meeting, the Fed lowered rates by 25 basis points—largely in line with what the markets expected. Powell called the rate cut “a mid-cycle adjustment to policy.” He explained that it isn’t “the beginning of a lengthy cutting cycle.” Powell’s comments earned him the wrath of markets and President Trump. The S&P 500 (SPY) fell 1.1% after Powell’s comments. Meanwhile, after showing weakness last month, SPY is back near its all-time highs. President Trump has a tumultuous relationship with Powell. He lashed out at Powell and called for a big rate cut.
Trump versus the Fed
President Trump has frequently targeted Powell and the Fed. On Monday, President Trump tweeted, “Producer prices in China shrank most in 3 years due to China’s big devaluation of their currency, coupled with monetary stimulus. Federal Reserve not watching? Will Fed ever get into the game?” For a moment, we’re going off track to deliberate on his comments on China’s producer price inflation. President Trump said that yuan devaluation is driving China’s producer prices low. However, China’s domestic slowdown and weak export markets drive down its producer price inflation. A weaker yuan increases China’s import prices and should ideally lead to higher inflation.
Powell might surprise the markets
Now, we’ll discuss the Fed rate cut probability. A Fed rate cut appears to be on shaky ground. The Fed’s rate cut decision isn’t just based on one economic indicator. However, the US economy has been reasonably strong. The lower probability of a rate cut would also mean that Powell has a chance to give the markets a positive surprise.
However, if the Fed decides to stay put, it could spook the markets. Along with the rate decision, Powell would have to communicate the Fed’s reasoning effectively to the markets. A more hawkish-than-expected approach like we saw in the July meeting could trigger a sell-off.