Last week’s market performance was highly volatile, reflecting the unresolved divergence in participants’ views on the future. At the core of this uncertainty is the debate over the magnitude of the upcoming rate cut—whether it will be 25 basis points (bp) or 50bp. According to FedWatch, the probability is evenly split at 50:50, highlighting the significant division among investors. The final confirmation will come in the early hours of September 19th, when the Federal Reserve announces its rate decision. Therefore, our focus this week is on the likelihood of a rate cut and the relevant data surrounding it, as the Fed’s decision is the most important event for the markets this week.
As we mentioned in previous reports, the market has largely priced in a rate cut this month, with at least a 25bp reduction expected. This expectation is already reflected in asset prices, as we have not seen significant gains while the probability of a 25bp cut remains the dominant view. If we assume future asset price appreciation, the only scenario where this materializes is a 50bp cut—or even more.
On the other hand, the dilemma lies in the fact that if economic data is favorable, the Fed has no reason to cut by 50bp—25bp would suffice. Recent data from the past two months show the economy is not under severe strain; unemployment rates are stable, and commodity prices remain relatively balanced. This suggests that a 50bp cut may not be necessary. The only plausible reason for a 50bp cut would be if the Fed has access to economic data unknown to the public, indicating that the economy is either already in a recession or at a high risk of entering one, thus requiring swift action. This perspective is gaining traction among investors and has become a key trading narrative, which could be further confirmed by events on September 17th.
On September 17th, U.S. retail data was released, showing core retail sales increased by 0.1% month-over-month, below the expected 0.2%. However, the market responded positively, especially among rate-sensitive assets like the Russell 2000 and cryptocurrencies. This suggests more justification for a 50bp cut, and the data reassures investors that the Fed’s potential 50bp rate cut is not due to a severe recession. As a result, markets rallied on the evening of September 17th, with Bitcoin surging over 5% in a single day and the Russell 2000 gaining 0.83%. The market is increasingly pricing in the likelihood of a 50bp cut, indicating a clear bias toward the outcome of the FOMC meeting and rate decision on September 19th.
We believe that a 50bp cut would be an unexpectedly large rate reduction, especially given current economic conditions. Such a cut, exceeding expectations in a non-recessionary environment, would directly benefit and stimulate risk assets. On the other hand, if the Fed opts for a 25bp cut, it would fall short of expectations, and many investors may “sell the news,” although any sell-off would likely be short-lived, provided the U.S. is not in a deep recession.
In conclusion, we maintain a strong bullish outlook on rate cuts in a soft-landing scenario, with the potential for significant upside if the Fed surprises with a 50bp reduction.