The Federal Open Market Committee (FOMC) has lowered the federal funds rate by 25 basis points, marking its third consecutive rate cut. The new rate is now between 3.50% and 3.75%, a level we haven’t seen since September 2022. The committee was divided, with three members voting against the cut. Stephen Miran wanted a larger cut of 50 basis points, while Austan Goolsbee and Jeffrey Schmid favored keeping the rate unchanged.

FOMC Projections

Along with the rate decision, the FOMC released its dot plot in a quarterly summary. The plot showed no changes from the previous quarter, predicting just one rate cut in 2026 to 3.44% and another in 2027 to 3.1%. After the announcement, stocks reacted differently. The Nasdaq dropped by 70 points, while the S&P 500 rose by 9 points, and the Dow Jones gained about 290 points. The FOMC expressed concerns over rising employment risks and ongoing inflation. To ensure a good supply of reserves, the Fed will begin buying short-term Treasury securities. Economic growth forecasts have been raised to 2.3% for 2026 and 2.0% for 2027. Expectations for inflation and unemployment rates have shown slight improvements for 2027. The Federal Reserve’s 25-basis-point cut is noteworthy since it’s the third in a row, returning rates to levels from September 2022. While this move was anticipated, it opens up new avenues to explore. We need to consider the conflict between this current cut and the Fed’s cautious long-term view.

Market Reactions

The split vote and cautious outlook in the dot plot have already impacted volatility in the markets. The VIX index, which gauges expected volatility, has risen from about 14 to over 16.5 since the announcement. This could be a good time for traders to consider buying options like straddles or strangles on major indices to benefit from the expected price fluctuations in the coming weeks. The most crucial insight is the dot plot, which hints at a slower pace of rate cuts in 2026 and 2027 than the market anticipated. Before the meeting, futures suggested a high chance of at least two cuts next year. Traders may want to adjust their strategies for a flatter yield curve, possibly by selling futures tied to the Secured Overnight Financing Rate (SOFR) for late 2026 to bet against aggressive rate-cut expectations. We noticed a clear divide in market reactions: the Dow Jones rose while the tech-heavy Nasdaq fell. This suggests a shift from growth stocks, which tend to struggle with the idea of sustained high rates, to value stocks that benefit from a better economy and immediate lower borrowing costs. This pattern resembles what we observed in late 2023, indicating that a pair trade could be effective: buying call options on industrial or financial ETFs while purchasing puts on tech sector funds. The Fed’s warning about rising risks to employment makes upcoming economic data even more crucial. We’ll closely monitor the next Non-Farm Payrolls report, especially since the November 2025 report was slightly below expectations with 155,000 new jobs. Any signs of weakness in the labor market could push the Fed to reconsider its cautious approach, making options trades placed just before these reports very valuable. Additionally, the committee’s decision to buy shorter-term Treasury securities is a significant step. This move aims to ensure enough liquidity in the banking system and will help keep short-term borrowing costs low, suggesting that the Fed is focused on preventing immediate market stress. This approach supports stability in the short-term yield curve, even as longer-term rates remain uncertain. Create your live VT Markets account and start trading now.

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