Federal Reserve Governor Christopher Waller is in favor of a 25 basis point rate cut at the upcoming meeting in July. He cites growing economic risks and signs that the labor market is weakening. Waller cautions that waiting for more job losses could lead to the need for stronger actions later on. Waller feels that the inflation caused by tariffs is temporary. He notes that core inflation is near its target when excluding trade pressures. With private sector hiring slowing and GDP growth at around 1%, he doesn’t see significant risks of inflation rising.

Fed Rate Cut Strategy

Waller suggests that a rate cut in July would allow the Fed to take a break in future meetings, helping align policies with a neutral stance as the economy slows down. Both Waller and Bowman currently support the rate cut for the Federal Open Market Committee (FOMC) meeting on July 29-30. However, with 12 committee members, support for the rate cut is not yet strong enough. Given Waller’s clear position, we think derivative traders should start positioning for a higher chance of a rate cut in July. His comments about acting early to prevent a more significant downturn indicate a major dovish shift in the Fed’s approach. This suggests they are becoming more reactive to slowing economic data. Recent labor market statistics support this view. The June report showed nonfarm payrolls increased by just 209,000, while the unemployment rate rose to 4.1%, its highest in over two years. These numbers reinforce his claim that private sector hiring is nearing “stall speed,” justifying a proactive policy change. Waller’s perspective on inflation is also supported by data, with the core Personal Consumption Expenditures (PCE) price index at 2.6% for May. Although this is above target, the six-month trend is closer to 2%, suggesting manageable price pressures. This allows the central bank to concentrate on its employment goals.

Market Implications and Strategies

We’ve seen similar policies before, particularly in 2019, when the Fed made three rate cuts to guard against risks from trade issues and slowing global growth. This situation is comparable to the current rationale, suggesting that the market should take the potential for a rate cut seriously. For interest rate traders, this indicates that we should consider buying futures contracts linked to the Secured Overnight Financing Rate (SOFR) for the third quarter. The CME FedWatch Tool indicates a 75% chance of a 25 basis point cut, but these positions could be more profitable if confidence increases or if the market anticipates a second cut. With uncertainty about full committee agreement, we see potential in buying volatility before the late July meeting. Purchasing straddles or strangles on the S&P 500 index could be advantageous, as they would benefit from a significant market movement, whether upward from a dovish cut or downward from a hawkish hold. The current disagreements among voting members suggest a considerable price swing is likely. A more focused strategy would involve using equity derivatives to position for a positive market reaction to a cut. Buying call options on the Nasdaq 100 could be beneficial, as growth-oriented technology stocks are often very responsive to lower interest rates. This strategy allows for a leveraged bet that a more accommodating policy will drive the next rise in equity prices. Create your live VT Markets account and start trading now.

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