Today’s update focuses on important decisions from the Bank of Canada (BoC) and the Federal Open Market Committee (FOMC). Earlier, the UK Consumer Price Index (CPI) report met expectations and did not change market forecasts. The final Eurozone CPI is also not likely to impact the market unless there are significant changes. In today’s American session, the BoC is expected to lower interest rates by 25 basis points, dropping the policy rate to 2.50%. This follows a jobs report indicating job losses and an increase in the unemployment rate to 7.1%, up from 6.9%. Additionally, the market anticipates another 25 basis point cut in December.

The Federal Reserve’s Decision

The Federal Reserve is expected to cut the Federal Funds Rate by 25 basis points to a range of 4.00% to 4.25%. Some members may advocate for a bigger cut of 50 basis points. The upcoming Summary of Economic Projections will be crucial, especially the dot plot, which previously suggested 75 basis points of cuts by 2026. However, forecasts now predict 148 basis points of cuts, with several reductions expected in 2025 and 2026. If the Fed signals fewer cuts, markets might react negatively. Next, attention will turn to Fed Chair Powell’s press conference. He is likely to highlight weaknesses in the labor market over inflation, possibly indicating stronger support for rate cuts if labor conditions worsen. With the Bank of Canada poised to cut rates today, the initial move in USD/CAD is likely already accounted for. The key opportunity will come from the BoC’s forward guidance. Recent data shows that Canadian retail sales have dropped, and the unemployment rate is weak at 7.1%. We are watching for options strategies that can profit from a further decline in the Canadian dollar if the bank hints at a faster cutting cycle into 2026.

Market Expectations and Volatility

The main focus is the Federal Reserve’s decision. While a 25 basis point cut is expected, the new dot plot carries more weight. There is a big difference between market expectations, which anticipate larger cuts, and the Fed’s last projection from June 2025. Reflecting on the Fed’s shift in 2019, we learned how quickly markets can adjust once official projections align with reality, indicating potential for high volatility. Recent US economic data supports the case for rate cuts, making a hawkish surprise even more impactful. Nonfarm payrolls averaged only 90,000 last quarter, a sharp decline from the 180,000 average earlier in the year. With core PCE inflation now at 2.8%, the Fed has strong reasons to focus on the weakening labor market. Given the risk of a “hawkish” dot plot showing fewer cuts in 2026 than markets expect, we are considering buying put options on major stock indices like the S&P 500 for protection. Conversely, if the dot plot matches the market’s dovish outlook, positions in SOFR futures should rise on lower rate expectations. This divergence presents a perfect opportunity for volatility trades, like straddles on the SPY ETF. Finally, we will closely analyze Fed Chair Powell’s press conference for his stance on the labor market. Any comments emphasizing a commitment to support employment, even at the potential cost of slightly stubborn inflation, will encourage us to increase our dovish bets for 2026. This may involve using long-term interest rate swaps to secure expectations for a lower policy rate into next year. Create your live VT Markets account and start trading now.

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