The Federal Reserve’s latest forecasts indicate downward adjustments to the federal funds rate. For 2025, the rate is projected at 3.675%, lower than the previous 3.875%. By 2026, the rate is expected to be 3.375%, aligning with projections, although previously set at 3.625%. By 2028, the rate is maintained at 3.125%.
Market Analysis
Market analysis reveals an easing of 47 basis points this year compared to earlier expectations of 41.9. Looking ahead to July, there is now an anticipated easing of 108 basis points, up from 100. Inflation projections are steady for the next few years, with the Personal Consumption Expenditures (PCE) headline inflation maintaining 3.0% for 2025. By 2028, the rate is set to stabilise at 2.0%.
GDP growth rates show an increase in future estimates; 2025 is now anticipated at 1.6%, rising from a previous expectation of 1.4%. By 2028, the rate remains steady at 1.8%. Unemployment projections reveal a gradual decrease, with the rate for 2025 at 4.5%. The forecast suggests a decrease to 4.2% by 2028. The Fed appears confident in future employment conditions, though challenges persist.
The Federal Reserve’s new forecast signals a more dovish stance, projecting two additional rate cuts in 2025 than previously expected. Markets have already started pricing this in, with 108 basis points of easing now anticipated by next July. This environment suggests we should position for lower interest rates ahead.
Given this outlook, we should consider going long on interest rate futures, like those tied to SOFR, which will gain value as rate cuts become more certain. The CME FedWatch tool is now indicating a near-certainty of at least one 25 basis point cut by the end of this year. This strong market consensus supports holding positions that benefit from falling rates.
Opportunities For Equities
This dovish pivot, combined with an upgraded GDP growth forecast to 1.6% for 2025, is a positive signal for equities. We can express this view by buying call options on major indices like the S&P 500. With the Fed signaling support for the economy, implied volatility should decrease, making it a good time to consider trades that benefit from a falling VIX.
However, we need to watch the labor market closely, as the Fed expects unemployment to hold at 4.5%. Looking back at previous cycles, like the period before the 2008 recession, we know that once unemployment begins to rise meaningfully, it rarely reverses course on its own. The most recent August jobs report showed the unemployment rate hit that 4.5% level, so any further weakness could shift sentiment quickly.
Finally, the expectation of lower US interest rates will likely put pressure on the dollar. This makes shorting the US Dollar Index (DXY) an attractive strategy, especially as other central banks like the ECB may not be as quick to cut rates. We could also look at going long futures contracts in currencies like the euro or Swiss franc against the dollar.
