Fed Night: Bigger variables beyond rate cuts
2025-09-17 16:57:35
During the European session on Wednesday (September 17th), risk assets remained volatile ahead of the Federal Reserve's interest rate meeting. Equity markets hit new highs for the year, gold hovered near a record high, the US dollar index traded sideways at a low level, and US Treasury yields declined significantly in nearly three months. Tonight's decision is viewed by the market as the most consequential of the year. In the short term, the interest rate decision will be crucial, while in the long term, the path forward and the "dot plot" signals will shape cross-asset pricing and volatility structures.
The market consensus points to a 25bp rate cut, while still retaining a roughly 4% probability of a more aggressive 50bp rate cut. The baseline bias favors a 25bp rate cut: the labor market has already seen marginal cooling, and the slowdown in employment necessitates a moderate easing of monetary conditions to maintain full employment. However, the true market trend hinges on whether the Fed is willing to embrace a steeper rate-cutting curve. The June dot plot projected a median rate of 3.87% in 2025, 3.6% in 2026, and 3.37% longer term. Federal funds futures have since repriced, currently betting on a rate cut to 3.6% in December this year and a further drop to 2.88% by the end of 2026. The key question tonight is whether the Fed will endorse this path or opt for a forceful countermeasure.
Inflationary constraints remain. The latest CPI rose by 2.9% year-on-year, and the core CPI by 3.1%, significantly exceeding the 2% target. Inflation expectations are diverging: the University of Michigan's one-year forecast is 4.8%, while the five- to ten-year forecast has recently risen to 3.9%. Meanwhile, the St. Louis Fed's five-year forward inflation forecast is only 2.33%. If interest rate cuts are too rapid and drastic, inflation expectations could become unanchored again, potentially increasing interest rate volatility through the term premium, boosting demand for gold as the "ultimate hedge," a fact reinforced by the recent record high gold prices.
Political factors heighten uncertainty at the meeting. The administration hopes for a faster decline in financing costs, and its nominated governor, Stephen Milan, has already passed the hearing and will be a voting member. At his confirmation hearing, he emphasized the third objective of "pursuing moderate long-term interest rates." The current 30-year mortgage rate is approximately 6.35%, down from October of last year, but still relatively high for the administration. It is expected that dovish governors may favor a more drastic rate cut, while more cautious members may favor a more gradual approach. The meeting could be the most divided in recent years. Meanwhile, the Bloomberg Fed Rhetoric Index has rebounded to its highest level since April, suggesting significant room for surprise in this guidance.
On a weekly basis, the US Dollar Index is trading near the lower Bollinger Band (MB), with the middle Bollinger Band at 98.9338, the upper Bollinger Band at 102.3525, and the lower Bollinger Band at 95.5152. The recent candlestick chart has formed a small range between 96.3729 and 97.6500, significantly below the middle Bollinger Band, indicating that the downtrend remains dominant. Resistance levels at the highs of 107.3530 and 110.1699 are clearly emerging, while the previous low of 99.5494 has shifted from support to resistance.
In terms of indicator resonance: the DIFF of the MACD indicator is -1.3623, the DEA is -1.5016, and the MACD histogram is 0.2787, which means that the short-side momentum is weakening but still below the zero axis, which is more like a technical rebound from the previous oversold; the relative strength index RSI (14) is 33.9631, which is in the weak range of 30-40. If the Bollinger middle track cannot be recovered in the future, the RSI will most likely remain at a low level.
Overall, 95.5152 (the lower Bollinger band) and 96.3729 constitute initial support, with further support expected near the 95 mark. Initial resistance lies above 97.6500 and 98.9338 (the middle Bollinger band), with strong resistance at 100, 102.3525, and 107.3530. A successful short-term breakout above 97.6500, accompanied by a red and expanding MACD histogram, could confirm a mean-reversion rebound, with the upper limit of the rebound primarily referenced between 98.9338 and 100. Conversely, a break below 96.3729, accompanied by rising volatility and a larger real-body figure, would point to a retest of 95.5152, prompting caution for an accelerated decline following a passive opening of the lower Bollinger band.
Risk appetite has already preemptively priced in a dovish outlook: equity markets hit new highs, gold prices hit a new record, the US dollar, the weakest G10 group, continued its decline, and US Treasuries have outperformed for the past three months. Rather than waiting for results before acting, the market is betting on rapid easing within a "trade first, verify later" framework.
It's important to note that the inflation-employment gap justifies the downward trend in short-term interest rates. However, if long-term nominal interest rates resist declines due to a resurgence in the inflation premium, this will re-steepen the curve and create repricing pressure on high-duration assets. Gold's strength aligns with diverging inflation expectations, suggesting that consensus on "hedging against inflation and policy missteps" is still building. On the foreign exchange front, the dollar's weakness stems from the dual narrowing of relative interest rate differentials and growth expectations. However, this pricing is already quite advanced, and sentiment risks cannot be ignored.
(1) Hawkish Scenario: The Fed explicitly refutes the "rapid rate cut" narrative. If the dot plot and statement emphasize inflation resilience and "data dependence," and offer a more gradual path for rate cuts beyond this year, the US dollar index is expected to stage a technical pullback above 96.3729, initially targeting 98.9338 and further towards 100. US Treasury yields rise in tandem with the dollar, gold retreats from its highs, and equity market gains slow. This scenario represents lower tail risk but presents a "health check" for crowded long positions.
(II) Neutral Scenario – A 25bp rate cut and an increase in the number of medium-term rate cuts, but with a deliberately slow pace: The market reprices to a "slow but sustainable" path, blunting the upward momentum of risk assets. Gold consolidates at a high level as inflation concerns ease, and the US dollar rebounds briefly before returning to a volatile market. Technically, the US dollar index is likely to trade back and forth between 96.3729 and 98.9338, awaiting further data and speeches to dictate its direction.
(3) Dovish scenario—clearly hinting at four to five subsequent rate cuts and mentioning the "third objective" context: The yield curve shifts downward overall. If the long end follows suit and declines sharply, equity and credit spreads will continue to expand, the US dollar will weaken further, and gold will reach new highs driven by both policy and inflation expectations. However, in the medium to long term, if inflation expectations rise again due to overly rapid easing, yield volatility will return and backfire on risky assets, which is also the most underestimated risk currently priced in.
Fundamentals:
The market consensus points to a 25bp rate cut, while still retaining a roughly 4% probability of a more aggressive 50bp rate cut. The baseline bias favors a 25bp rate cut: the labor market has already seen marginal cooling, and the slowdown in employment necessitates a moderate easing of monetary conditions to maintain full employment. However, the true market trend hinges on whether the Fed is willing to embrace a steeper rate-cutting curve. The June dot plot projected a median rate of 3.87% in 2025, 3.6% in 2026, and 3.37% longer term. Federal funds futures have since repriced, currently betting on a rate cut to 3.6% in December this year and a further drop to 2.88% by the end of 2026. The key question tonight is whether the Fed will endorse this path or opt for a forceful countermeasure.
Inflationary constraints remain. The latest CPI rose by 2.9% year-on-year, and the core CPI by 3.1%, significantly exceeding the 2% target. Inflation expectations are diverging: the University of Michigan's one-year forecast is 4.8%, while the five- to ten-year forecast has recently risen to 3.9%. Meanwhile, the St. Louis Fed's five-year forward inflation forecast is only 2.33%. If interest rate cuts are too rapid and drastic, inflation expectations could become unanchored again, potentially increasing interest rate volatility through the term premium, boosting demand for gold as the "ultimate hedge," a fact reinforced by the recent record high gold prices.
Political factors heighten uncertainty at the meeting. The administration hopes for a faster decline in financing costs, and its nominated governor, Stephen Milan, has already passed the hearing and will be a voting member. At his confirmation hearing, he emphasized the third objective of "pursuing moderate long-term interest rates." The current 30-year mortgage rate is approximately 6.35%, down from October of last year, but still relatively high for the administration. It is expected that dovish governors may favor a more drastic rate cut, while more cautious members may favor a more gradual approach. The meeting could be the most divided in recent years. Meanwhile, the Bloomberg Fed Rhetoric Index has rebounded to its highest level since April, suggesting significant room for surprise in this guidance.
Technical aspects:
On a weekly basis, the US Dollar Index is trading near the lower Bollinger Band (MB), with the middle Bollinger Band at 98.9338, the upper Bollinger Band at 102.3525, and the lower Bollinger Band at 95.5152. The recent candlestick chart has formed a small range between 96.3729 and 97.6500, significantly below the middle Bollinger Band, indicating that the downtrend remains dominant. Resistance levels at the highs of 107.3530 and 110.1699 are clearly emerging, while the previous low of 99.5494 has shifted from support to resistance.
In terms of indicator resonance: the DIFF of the MACD indicator is -1.3623, the DEA is -1.5016, and the MACD histogram is 0.2787, which means that the short-side momentum is weakening but still below the zero axis, which is more like a technical rebound from the previous oversold; the relative strength index RSI (14) is 33.9631, which is in the weak range of 30-40. If the Bollinger middle track cannot be recovered in the future, the RSI will most likely remain at a low level.
Overall, 95.5152 (the lower Bollinger band) and 96.3729 constitute initial support, with further support expected near the 95 mark. Initial resistance lies above 97.6500 and 98.9338 (the middle Bollinger band), with strong resistance at 100, 102.3525, and 107.3530. A successful short-term breakout above 97.6500, accompanied by a red and expanding MACD histogram, could confirm a mean-reversion rebound, with the upper limit of the rebound primarily referenced between 98.9338 and 100. Conversely, a break below 96.3729, accompanied by rising volatility and a larger real-body figure, would point to a retest of 95.5152, prompting caution for an accelerated decline following a passive opening of the lower Bollinger band.
Market sentiment observation:
Risk appetite has already preemptively priced in a dovish outlook: equity markets hit new highs, gold prices hit a new record, the US dollar, the weakest G10 group, continued its decline, and US Treasuries have outperformed for the past three months. Rather than waiting for results before acting, the market is betting on rapid easing within a "trade first, verify later" framework.
It's important to note that the inflation-employment gap justifies the downward trend in short-term interest rates. However, if long-term nominal interest rates resist declines due to a resurgence in the inflation premium, this will re-steepen the curve and create repricing pressure on high-duration assets. Gold's strength aligns with diverging inflation expectations, suggesting that consensus on "hedging against inflation and policy missteps" is still building. On the foreign exchange front, the dollar's weakness stems from the dual narrowing of relative interest rate differentials and growth expectations. However, this pricing is already quite advanced, and sentiment risks cannot be ignored.
Market outlook:
(1) Hawkish Scenario: The Fed explicitly refutes the "rapid rate cut" narrative. If the dot plot and statement emphasize inflation resilience and "data dependence," and offer a more gradual path for rate cuts beyond this year, the US dollar index is expected to stage a technical pullback above 96.3729, initially targeting 98.9338 and further towards 100. US Treasury yields rise in tandem with the dollar, gold retreats from its highs, and equity market gains slow. This scenario represents lower tail risk but presents a "health check" for crowded long positions.
(II) Neutral Scenario – A 25bp rate cut and an increase in the number of medium-term rate cuts, but with a deliberately slow pace: The market reprices to a "slow but sustainable" path, blunting the upward momentum of risk assets. Gold consolidates at a high level as inflation concerns ease, and the US dollar rebounds briefly before returning to a volatile market. Technically, the US dollar index is likely to trade back and forth between 96.3729 and 98.9338, awaiting further data and speeches to dictate its direction.
(3) Dovish scenario—clearly hinting at four to five subsequent rate cuts and mentioning the "third objective" context: The yield curve shifts downward overall. If the long end follows suit and declines sharply, equity and credit spreads will continue to expand, the US dollar will weaken further, and gold will reach new highs driven by both policy and inflation expectations. However, in the medium to long term, if inflation expectations rise again due to overly rapid easing, yield volatility will return and backfire on risky assets, which is also the most underestimated risk currently priced in.
- Risk Warning and Disclaimer
- The market involves risk, and trading may not be suitable for all investors. This article is for reference only and does not constitute personal investment advice, nor does it take into account certain users’ specific investment objectives, financial situation, or other needs. Any investment decisions made based on this information are at your own risk.
