Since Friday, the market's expectations of a 50 basis point interest rate cut by the Federal Reserve have surged. It is worth noting that this change in market sentiment is not due to new economic data or a shift in Fed policy, but rather from two media reports suspected to be "hints" from the Fed.
Currently, the Federal Reserve is in a pre-policy "quiet period" and officials will not speak on their own. Therefore, using the "media mouthpieces" to guide expectations has become a "tool" to manipulate market sentiment. Mohamed El-Erian, Chief Economic Adviser at Allianz, said,
"The market's expectations for a 50 basis point interest rate cut by the Federal Reserve this week have heated up and are now seen as the most likely outcome by traders, surpassing expectations of a 25 basis point cut...
Market sentiment has been mainly influenced by last Friday's reports from sources in the Wall Street Journal and the Financial Times, and Fed officials have not explicitly refuted this in subsequent market volatility.
On Sunday, the 15th, a senior central bank journalist once again called for a 50 basis point cut - Greg Ip, a senior central bank journalist at the Wall Street Journal, analyzed the current economic situation and believed that the need for further interest rate cuts by the Fed is becoming more apparent, and called for a 50 basis point cut. CNBC journalist Carl Quintanilla commented: "The opinion leaders have spoken!"
In this context, Jim Reid, Global Head of Deutsche Bank's Economic and Thematic Research, analyzed in a report on the 16th that if the Fed is not satisfied with the current 50 basis point expectation, they will use the media to hint at a 25 basis point cut on Monday or Tuesday to clarify. If no media reports hinting at a 25 basis point hike come out before Wednesday, the market's expectations for a 50 basis point cut will further rise.
The media's movements in the next 12 hours will be crucial and may ultimately determine market pricing.
"Forward guidance"?
Last week, Nick Timiraos of the 'New Fed Communication Agency' published an article, suggesting that a cut of 25 basis points and 50 basis points is a 'close call'. deutsche bank's Matt Luzzetti believes that the article tends to support a larger rate cut.
The Financial Times' Colby Smith also published a similar article, with Matt Luzzetti's interpretation being that the article tends to oppose a larger interest rate cut.
After the release of the August CPI data in the USA, the market generally expects a higher likelihood of a 25 basis points rate cut. However, articles from the Wall Street Journal and the Financial Times have prompted a reevaluation of the rate cut magnitude, with the probability of a 50 basis points rate cut increasing.
On Sunday the 15th, senior central bank reporter Greg Ip of the 'Wall Street Journal' published an article in support of a 50 basis points cut. Ip's analysis in the article, based on the current economic situation, suggests a growing need for further Fed rate cuts, calling for a 50 basis points cut. CNBC reporter Carl Quintanilla commented, 'The opinion leaders have spoken!'
According to the analysis of Bianco, the president of the research institution Bianco, if the Fed's guidance becomes more ambiguous, the market will incorporate greater risk premium and higher volatility.
On Friday, the closing prices of the federal funds interest rates futures showed probabilities of 49% for a 50 basis points rate cut and 51% for a 25 basis points rate cut (see chart). From the Fed's perspective, this is almost equivalent to maximum uncertainty (50/50), which is the worst case scenario.
If this situation continues until Wednesday, nearly half of Wall Street professionals would be greatly surprised. The Fed is precisely designed to avoid this scenario, having created forward guidance to inform the market of its intentions before taking action.
Therefore, it is expected that the following two scenarios will occur:
1. An article clarifying how much the Fed will cut interest rates on the 18th. It may be on Monday morning.
2. If there is no clarification, there will be discussions about the failure of forward guidance. The market will have to adapt to a world where the Fed releases information that is more ambiguous, which means that when predicting the Fed's intentions, the market will factor in a greater risk premium and higher volatility, especially in the funding market.
I expect the first scenario to occur. But if the second scenario occurs, I hope Powell will be able to explain it at Wednesday's press conference.
On Friday, the closing prices of federal funds rate futures indicated that there is a 49% chance of a 50 basis point rate cut and a 51% chance of a 25 basis point rate cut.
This has also prompted Mohamed El-Erian, Chief Economic Advisor of Allianz Group, to think:
During the "quiet period", how does the Fed respond to media reports?
Given the market's general expectation of a 50 basis point rate cut, will the top officials of the Fed be pressured into ultimately choosing a 50 basis point rate cut?
Deutsche Bank: 50bps? The next 12 hours will tell!
So, will the Federal Reserve cut interest rates by 25 or 50 basis points on Wednesday?
Deutsche Bank analyst Matt Raskin believes there are two possibilities in the future: either the media guides the market to expect a return to a 25 basis point rate hike, or the Federal Reserve announces a 50 basis point rate hike on Wednesday.
Jim Reid, the Director of Global Economics and Special Studies at Deutsche Bank, believes that if the Federal Reserve is not satisfied with the current expectation of a 50 basis point hike, they will clarify by leaking a 25 basis point rate cut through the media on Monday and Tuesday. If there is no media report about a 25 basis point rate hike before Wednesday, the market's expectation for a 50 basis point rate cut will further rise.
The media's movements in the next 12 hours will be crucial and may ultimately determine market pricing.
Editor/Somer
