For the global financial markets, tonight is destined to be a sleepless night...

According to the schedule, the Fed will announce the September interest rate decision at 2:00 am Beijing time on Thursday. Currently, it is widely expected in the industry that the Fed's first interest rate cut in 4 years is almost certain at this meeting.

But at the same time, this is also the most 'mysterious' or most uncertain Fed interest rate night in recent years: although the market is collectively convinced that the Fed will cut interest rates this month, there is still intense controversy and disagreement on how much the Fed policy makers will cut rates - whether it will be a more traditional 25 basis points or a more aggressive first step towards easing by directly cutting 50 basis points.

All of this foretells market volatility tonight and even during the Asian session on Thursday, which is destined to be anything but calm!

The biggest suspense tonight: 25 or 50 basis point rate cut?

If we compare the dramatic changes in expectations before tonight's Fed decision to the previous experiences of Fed interest rate meetings, it may be difficult to find a similar case. However, looking globally, there is actually a case that is very similar to tonight - the Bank of Japan's decision in July (one of the culprits behind the 'Black Monday' in Japanese stocks in August).

Before that Bank of Japan decision, the mainstream expectation from the media surveys was that the Bank of Japan would stand pat. However, on the eve of the decision, the Japanese media, which serves as the 'mouthpiece' of the Bank of Japan, suddenly hinted that the Bank of Japan would hike interest rates, which quickly led the interest rate futures market to bet on a rate hike. The Bank of Japan ultimately 'unexpectedly' but not surprisingly raised interest rates to 0.25%.

And this time, the market's anticipation of the Fed's interest rate changes is almost the same: after the release of heavy economic data such as non-farm payrolls and CPI, and the Fed officially entering its silent period, 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, who are known as the 'new Fed news agency,' repeatedly stating in their articles that 'the first rate cut is still uncertain' and 'the Fed should cut interest rates by 50 basis points this month,' as well as senior figures such as former New York Fed President William Dudley calling on Fed policymakers to take more aggressive action, the possibility of a 50 basis point rate cut has actually gained momentum on the eve of tonight's interest rate decision.

(Nick Timiraos and his colleagues have been leading the charge over the past few days: it's like they are building the hype for a 50 basis point rate cut).

The following comparisons may reflect the 'dramatic' change in market expectations for the magnitude of the Fed's rate cut at this meeting:

In terms of media surveys, among the 114 institutional economists surveyed by Bloomberg, only 9 expect the Fed to cut interest rates by 50 basis points tonight, while the vast majority (105) of the economists believe that the Fed will 'only' cut interest rates by 25 basis points. This is actually the expected value of the interest rate change that many Chinese investors see in the financial calendar of domestic media.

Generally speaking, such a one-sided media survey expectation usually locks in a 25 basis point rate cut by the Fed tonight in advance. However, investors who have been following the overseas market trends during the Mid-Autumn Festival are obviously aware that the above survey expectations are severely 'outdated' compared to the real-time expectations changes in the interest rate futures or swap markets.

For example, the 'Fed Watch Tool' of CME Group currently shows that the probability of the interest rate futures market traders predicting a 50 basis point rate cut by the Fed tonight is as high as 64%, while the probability of a 25 basis point rate cut has dropped to 36%.

In addition, according to industry-summarized data, the number of open interest contracts in October federal funds futures that investors use to bet on the Fed's interest rate decision meeting this week has now surged to the most extreme level since the launch of the derivative product in 1988. And most of these new bets are placed on a 50 basis point rate cut by the Fed this month, with the significant increase in the size of related positions since this week - new positions in the past two trading days have accounted for nearly one-third.

Given that Fed officials are currently in a 'silent period' before the interest rate decision and cannot make public speeches, many market participants have actually regarded articles by Nick Timiraos and others as a covert 'leak' from the Fed. Therefore, tonight's Fed decision is almost certain to be 'interesting': if the Fed cuts interest rates by 50 basis points, it will be a result that does not conform to the widespread expectations of the media and will undoubtedly 'shock' the market, while if the Fed cuts interest rates by 25 basis points, it will contradict the positioning in the interest rate, bond, and stock markets over the past few days, and it will trigger a 'major earthquake' in the market...

As the well-known financial blog website Zerohedge said, tonight the market is destined to welcome a 'surprise', not only because there is a difference in expectations for a 25 basis point or 50 basis point rate cut, but also because the gap between the current market consensus (nearly 70% expecting a 50 basis point rate cut) and economists' expectations (92% expecting a 25 basis point rate cut) has never been so large.

In fact, even within the Federal Reserve, there may be some debate over whether to cut rates by 25 basis points or 50 basis points. One interesting thing is that until the end of last week, investors were still expecting the Fed to cut rates by only 25 basis points because there were few officials openly calling for a larger rate cut. However, as we have mentioned before, within the Federal Reserve, Chairman Powell may be a 'dovish' who wants to implement a more aggressive easing policy. The recent rumors from Fed's mouthpiece media and the shift in market expectations may not be unrelated to the fierce internal struggle within the Federal Reserve.

Former Dallas Fed President Kaplan said on Tuesday, 'I guess there is some disagreement among them. Some of the people in the room will have the same feeling as me, that they acted a bit late, and they want to step up their pace and not spend the autumn chasing the economy. And from a risk management perspective, there are also some who just want to be more cautious.'

'The key issue they will face at this meeting is their perception of risk balance. If they are more concerned about growth and employment rather than inflation, they are likely to want to be more conservative and cut rates by a larger 50 basis points,' former Fed senior advisor William English pointed out.

In addition to the magnitude of the rate cut, don't forget to pay attention to the dot plot.

In addition to the suspense of whether the Fed will cut rates by 25 basis points or 50 basis points, there is another key point tonight that investors should not overlook - as the end of the quarter decision, the Fed will also release the latest Summary of Economic Projections (SEP), which covers Fed officials' expectations for the next three years on the economy, inflation, and the unemployment rate, including the famous dot plot. The latest SEP will include forecasts for 2024 to 2027.

In the dot plot, each Fed official will list their views on the future direction of interest rates in one chart. And tonight, the significance of Fed officials' forecasts for where rates will be at the end of the next two years may be just as important as how much rates will be cut in this specific meeting.

In the dot plot of June this year, FOMC members only expected one rate cut before the end of the year - this forecast is almost certain to be updated, as with only three meetings left, the market has priced in up to five 25 basis point rate cuts, totaling 125 basis points of rate cuts.

In addition, according to the CME Group's FedWatch Tool, traders currently expect the Federal Reserve to further significantly cut interest rates next year, lowering the current benchmark rate by 250 basis points before stopping the rate cuts, with the rate expected to fall below the key 3% integer threshold by September next year.

Some economists suggest that, compared to the size of the first rate cut, the more important issue at this meeting may be how low the Federal Reserve will ultimately lower rates, and how long it will take to achieve this goal. Some analysts, including Luke Tilley, chief economist at Wilmington Trust and former Fed official, expect the Fed to make more aggressive rate cuts, lowering the rate to 2.5% next year.

Economists at Citibank indicate that given the level of anxiety at the Fed, the central bank is likely to cut rates by at least 50 basis points multiple times in the coming year.

It is worth noting that there is currently a significant 'gap' between the latest market expectations for interest rates and the Fed's June dot plot, with a difference of up to 125 basis points on the position of rates at the year-end (red arrow in the illustration), which may trigger a market risk shock wave if the downward movement in the September dot plot is not sufficient.

In other aspects of the 'Economic Projections Summary,' it is currently expected within the industry that the most significant adjustment at this meeting may be in terms of the unemployment rate, with the FOMC almost certain to raise this year's unemployment rate predicted in June from 4.0% due to the current rate already at 4.2%. The forecasted core inflation rate for this year of 2.8% given in June may be revised downward as the core inflation rate for July has already fallen to 2.6%.

Note: Economic projections at the Fed's June meeting

In a report, Goldman Sachs economists state, 'Inflation seems likely to be lower than the forecast given by the FOMC in June, with high inflation at the beginning of this year increasingly resembling residual seasonal effects rather than a resurgence. Therefore, a key theme of the meeting will be shifting focus to labor market risks.'

What are the highlights of the Federal Reserve statement and Powell's press conference?

In addition to adjustments to the 'Summary of Economic Projections', the post-meeting statement of the FOMC is also expected to be changed to reflect the arrival of rate cuts, and the committee may also add or modify some forward-looking guidance. Some industry insiders have indicated that there may be several changes in the wording of the Fed's statement, including the wording around the balance of risks between employment and inflation.

Goldman Sachs expects that the Federal Open Market Committee 'may modify its statement to have more confidence in inflation, and describe inflation and employment risks as more balanced, and once again emphasize its commitment to maintaining full employment.'

MacroPolicy Perspectives strategists Julia Coronado and Laura Rosner-Warburton also stated that the FOMC may adopt a similar approach to the one used by Director Wall on September 6, namely, 'Risk balance has shifted to the employment aspect of our dual mandate.'

However, Jefferies economist Simons pointed out, 'I don't think they will give very specific forward guidance. At this stage of the current cycle, forward guidance is actually not very useful, because the Fed doesn't really know what they want to do.'

Finally, given that tonight's rate cut by the Fed may trigger significant market volatility, how Fed Chairman Powell will present his 'wording' to reassure the market at the press conference at 2:30 am on Thursday morning of Beijing time, may also be a major focus tonight!

Many industry insiders have stated that how Powell 'explains' the magnitude of the rate cut (such as 25 basis points or 50 basis points) will impact the volatility of the financial markets tonight. If he hints at further rate cuts in his speech, or expresses concerns about economic risks, the market may adjust its investment strategy accordingly.

BI strategists Ira F. Jersey and Will Hoffman stated that if the Fed's interest rate outlook changes, the short-term interest rate market may quickly adjust after the initial reaction. However, the most likely scenario remains: Powell will emphasize the continued 'reliance on data' at the post-meeting press conference.

Given that there is only a month and a half left before the November election in the USA, once the Fed really cuts rates by 50 basis points tonight, how Powell responds to the controversy about his decision possibly interfering with the election situation will also be a focus of attention.

Before this, some insiders in the industry had called on the Federal Reserve to avoid influencing the election and cut interest rates as early as possible (such as in July). However, if the Federal Reserve were to cut rates by 50 basis points at tonight's last meeting before the election, it would undoubtedly provoke criticism from Republicans, represented by presidential candidate Trump. As for the Democrats, they are openly calling on Powell to cut rates by 75 basis points tonight...

Editor/ping