FOMC Likely to Cut Rates by 25bps; Will Beneficiaries Continue to Ride Tailwinds?

The Federal Reserve is set to release its decision from the December FOMC meeting at 2 p.m. Eastern Time on Wednesday, followed by a press conference with Chair Jerome Powell at 2:30 p.m. The announcement is expected to significantly impact markets.

Rate Cut of 25bps Almost Certain; Focus Shifts to Future Easing Path

A 25 basis point rate cut is anticipated, marking the third reduction this year and bringing the total cuts to 100 basis points for 2024. The FedWatch Tool indicates a 97% chance of this cut, and a Bloomberg survey shows 89 out of 97 analysts predict a December cut to a range of 4.25% to 4.5%.

The meeting's focus is on the future trajectory of rate cuts, with considerations on inflation, labor market conditions, Trump's policies, and geopolitical risks. 

Jon Faust, former senior adviser to Fed Chair Jerome Powell from 2018 until early this year, noted officials' comments on the trajectory of the fed-funds rate are expected to carry more weight than their specific decision regarding the December meeting.

Many analysts anticipate that the Federal Reserve's policy statement and Fed Chair Jerome Powell's post-meeting press conference will convey a hawkish message.

$Goldman Sachs(GS)$  predicts that the Fed may signal a slower pace of rate cuts in 2025 this week, and due to concerns over persistent inflation and a robust labor market, a rate cut in January is unlikely. Economists surveyed by the Financial Times suggest that the Fed will adopt a more cautious stance on rate cuts due to worries that policies from the Trump administration could spur inflation.

Nick Timiraos, chief economics correspondent for The Wall Street Journal, reported that labor market volatility has eased and inflation has slightly picked up since September. He wrote, "One option this week would be to cut by a quarter point, then use new economic projections to strongly hint that the central bank is ready to go more slowly on the reductions."

Market Implications

U.S. stocks have climbed steadily following September's initial rate cut. The $Russell 2000 Index (.RUT.US) and $S&P 500(.SPX)$   have gained 15.5% and 10.9% over the past three months, respectively. 

$Consumer Discretionary (LIST20755.US)$ sectors saw significant boosts, with autos and auto parts soaring 58.8%, household appliances up 18.8%, and textiles and apparel climbing 16.8%. Coal has jumped over 33%, while information technology rose 16.8%.

Markets have already factored in a 25-basis-point rate reduction. However, should the Fed signal a slower pace or smaller cuts in 2025, equities might encounter valuation challenges, especially among growth stocks, $Real Estate (LIST20762.US)$, and interest rate-sensitive small caps. Investors could pivot to defensive sectors such as $Utilities (LIST20765.US)$ and $Consumer Staples (LIST20756.US)$. If the dot plot indicates a higher terminal rate for 2025, the bond yield curve may flatten, with short-term yields climbing relative to long-term ones, creating downside risks for short-duration bonds.

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