Good Morning on this best day of the week Wednesday from your Hometown Lender,

The wait is almost over with the day investors have been building up to for weeks (if not months), finally here.

The Federal Reserve after more than four years is widely expected to lower interest rates after holding borrowing costs at a two-decade high. The bigger question is not if they will cut, but by how much –investors see better-than-even odds of a half-point adjustment, with forecasters favoring a 25-basis-point move.

Traders vs. economists, who is right?

As is often the case, markets tend to consolidate before big news (the Fed meeting being the biggest news) and so we are seeing bonds retreat a bit. The volatility floodgates will open after 11 with the announcement and the pipes could burst around 11:30 with the Fed commentary. If things go our way, we should see some improved pricing by days end. I would likely lock that as there is always an expectation of a knee jerk reaction and pricing could temporarily worsen thereafter.

Here is a great piece from Bloomberg that I recommend reading if you have the mindset that the Fed cut means that rates are heading lower.

It will explain the meaning behind the meaning…

Traders should prepare for a counterintuitive response to the Fed actions today.

If officials reduce interest rates by 50 basis points, it’s a strong reiteration of the committee’s very dovish reaction function, and where its priorities lie on its dual mandate of promoting both maximum employment and stable prices.

It will extend the economic cycle and send a message of complacency on inflation. US 10-year yields will climb in the subsequent months as a result, just like what happened in the wake of the Fed’s surprisingly dovish pivot in December 2023. The dollar will remain in a volatile downtrend overall, undermined by the Fed’s dovish reaction function, the hit to policy credibility and upcoming political noise, but intermittently supported by a steeper yield curve and bouts of risk-aversion.

The stock rally will broaden out, with the rest of world outperforming US stocks. Obviously, an aggressive cut that is delivered as being proactive and pre-emptive is more bullish for stocks and bearish for bonds than one that is accompanied by a sense of panic or intensified concern.

Conversely, if the Fed reduces by 25 basis points, it will be a major risk-aversion event, as it would disappoint all major markets at once (stocks, bonds, credit, emerging markets) while upsetting the recent trend for dollar weakness. Volatility will surge, as a tightening shock is always more impactful than an easing surprise.

If the smaller-than-expected hike is accompanied by dovish forecasts and dot plot, then dollar strength won’t sustain for long, due to the hit to policy credibility. If the rate move is validated by optimistic forecasts and dot plot, then bonds suffer badly, the volatility impact sustains and dollar surges on combination of risk aversion and yield support. US stocks would suffer immensely in subsequent days/weeks but the longer-term bull market shouldn’t be derailed if the message is that the economic cycle isn’t over.

Bloomberg Economics argues the Fed will provide a bullish half-point cut. For the little it’s worth, I agree. Even though I’m much more positive than most on the US economy and believe that the Fed won’t cut rates nearly as much as priced over the next year, it would be much more problematic and damaging to growth and policy credibility to disappoint today.

Stay safe and first make today great!