Open interest in interest rate futures has surged over the past three days, and the market is "certain" that the Fed will cut rates in December. Will the market be wrong this time?

Investors are making heavy bets that the Federal Reserve will cut interest rates again at next month’s meeting. On Tuesday, the yield on the 10-year U.S. Treasury fell below 4% during intraday trading for the first time in a month. JPMorgan’s client survey this week shows that investors’ net long positions in U.S. Treasuries have reached their highest level in about fifteen years. (10-year U.S. Treasury yield falls below 4.00% for the first time since Powell’s hawkish remarks in October) As reported by Wallstreetcn, news that White House National Economic Council Director Hassett has become a top candidate for the next Federal Reserve Chair has boosted market expectations for lower interest rates over the next year. Within just a few days, the market’s expectations for the Fed’s rate cuts have dramatically reversed. Open interest in futures contracts linked to the Fed’s benchmark rate has surged in the past three trading sessions, with the January contract hitting a record high in trading volume for two consecutive days last week. Market pricing shows that traders now see about an 80% chance of a 25 basis point cut next month, up from just 30% a few days ago. (Green line: probability of Fed rate cut in December vs Blue line: probability of rate cut in January next year) Fed officials’ “dovish signals” drive the reversal in market expectations Just days ago, the probability of a December rate cut was only 30%, but the situation has sharply reversed within a few days. Societe Generale strategist Rajappa said that, although some officials concerned about inflation voiced opposition, Fed Chair Powell and his allies “support a rate cut.” She believes: Given recent weak economic data, including the U.S. labor market, Powell will be able to convince other FOMC members. Brandywine Global Investment Management portfolio manager Tracy Chen noted: There is significant disagreement within the Fed, but it appears the doves outnumber the hawks. Blake Gwinn, Head of U.S. Rates Strategy at RBC Capital Markets, remarked: The market largely views (third-in-command) Williams’s comments as Powell revealing his stance. This week’s data also leans in that direction. In over twenty Fed meetings in the past two years, only three times have traders not fully priced in the outcome so close to the policy decision. And in the SOFR (Secured Overnight Financing Rate) options market, hedging trades for a December rate cut are also unusually active. Open interest in call options related to contracts expiring in December 2025 has surged this week, with a significant jump in contracts at the 96.25 strike price. This strike price has been used in various hedging structures targeting a 25 basis point rate cut at the December Fed meeting. Not everyone is convinced a rate cut will happen Despite one-sided market pricing and position data favoring a rate cut, not all Wall Street strategists are convinced. In fact, some top investment banks are cautious or even opposed to a December cut. Morgan Stanley strategists last week dropped their forecast for Fed policy easing. JPMorgan also tends to believe the Fed will hold steady next month, but admits “the December meeting will still be a very tough decision.” This suggests that, even with strong market expectations, the policy outcome remains uncertain. Tiffany Wilding, economist at Pacific Investment Management Company (Pimco), told the media: We still think they’ll cut rates in December, but I think the outlook beyond that is more uncertain. She pointed out that while U.S. economic growth has been robust this year, the labor market faces downside risks and inflation appears to be around 3%, “clearly above the target.” Risk warning and disclaimer Markets are risky, investment requires caution. This article does not constitute personal investment advice and does not take into account the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article are suitable for their specific circumstances. Investing based on this information is at your own risk.