Tonight, the Double Shock of the US FOMC and CPI: Scenarios Traders Need to Prepare For

Tonight could be a “Night of Fear” for foreign exchange market participants. This is because the US CPI release and the FOMC interest rate decision meeting will be held back-to-back within a few hours. Similar to the last non-farm payrolls report, a highly volatile situation is expected to unfold.

The Most Watched Event: FOMC Dot Plot

The rate decision itself is almost certain. Since the June FOMC meeting decided to hold the benchmark rate steady, the actual focus is on the ‘dot plot’(dot plot). The key question is how many rate cuts will be made within the year, and currently, the market is considering three scenarios.

Most Probable Baseline Scenario(Highest Possibility): Two rate cuts in the 2024 dot plot

Dovish Scenario: Three or more rate cuts in the 2024 dot plot

Hawkish Scenario: One or fewer rate cuts in the 2024 dot plot

Looking at the March FOMC voting results, the ratio of those supporting three or more cuts versus two or fewer was 10:9. Considering recent statements from Fed officials leaning dovishly, the most likely scenario is that the number of rate cuts will be reduced by one, making the baseline scenario the most probable. Major foreign capital financial institutions are also expecting a 25 basis point(bp) increase, implying two rate cuts within the year.

The medium- to long-term dot plot is also important. If the 2024 dot plot is upwardly revised, the long-term or neutral interest rate levels could also rise accordingly. If the baseline scenario proceeds, the dot plots for 2025 and 2026 could see a slight increase of about 25bp.

The Key: FOMC Statement and Powell’s Press Conference

The statement from the May meeting is expected to see little change this time. Instead, the focus will be on Chair Jerome Powell’s press conference after the meeting, which will reveal the Fed’s true intentions more clearly through direct questions from journalists.

In May, Powell explicitly denied the possibility of rate hikes, reassuring the market. Similar tone is expected in this press conference. The most likely scenario is: Powell hints that the next policy move could be a rate cut, while also emphasizing that he will not rush into any action given the stickiness of inflation data.

Economic Data: Signs of Downward Revision Everywhere

Since May, US economic indicators have been disappointing. Q1 GDP has already been revised downward, and recent data on retail sales, industrial production, PMI, job openings(JOLTS), and ADP employment figures have generally been weak.

Non-farm payrolls beat expectations, but considering the downward revisions of previous months and rising unemployment rate based on household surveys, the growth outlook for this year is likely to be slightly lowered.

Inflation is a critical factor. Since tonight’s CPI data will be released just hours before the FOMC meeting, Fed officials are likely to analyze inflation trends in advance. Recent inflation has been driven mainly by rigidities in core services and housing-related components.

How Will the Market React?

If the baseline scenario unfolds, the forex market is unlikely to receive new signals from the US FOMC meeting. However, if tonight’s CPI significantly exceeds expectations, the market could pre-price a “hawkish” FOMC outcome, quickly shifting to a “zero probability of rate cuts within the year” stance.

The market’s current expectation of 1-2 rate cuts could rapidly be reduced to fewer than one. In this case, the dollar index could rise quickly, testing the previous high of 106, and US Treasury yields would also rise in tandem.

Conversely, if CPI data underperforms, the FOMC meeting is likely to maintain a neutral tone, and at minimum, Powell’s press conference comments will lean dovish. In this scenario, the market may stay within a range for a while, but volatility could increase further.

Ultimately, tonight’s CPI and FOMC events will determine the market’s direction. Only prepared traders will be able to find opportunities amid the chaos.