Société Générale has indicated that U.S. stocks may decline if the Federal Reserve’s stance is less dovish than anticipated. Subadra Rajappa suggested that an “unwind” might occur if the markets perceive the Fed as reluctant to cut rates as aggressively as expected.
If the Fed’s dot plot shows fewer rate cuts than anticipated, equities could experience a decline. This situation could lead to a stronger USD and higher Treasury yields, while risk assets like equities and gold may come under pressure.
Critical Event Fed Dot Plot
The upcoming Fed dot plot is a critical event, as we see a real chance for a hawkish surprise that could unsettle markets. Currently, fed funds futures are pricing in at least two rate cuts by the end of 2025, but recent inflation data from August showed core CPI remaining sticky at 3.3%. If the Fed’s new projections signal only one cut or none at all, the market is not prepared.
We should look at buying downside protection on equities, especially with the VIX hovering near a low of 14. An “unwind” could quickly send volatility higher, making protective puts on the S&P 500 or Nasdaq 100 indices a cost-effective hedge against a sharp retreat from current highs. This strategy is about preparing for a swift change in sentiment rather than predicting a crash.
A less dovish Fed would almost certainly boost the U.S. dollar and push Treasury yields higher. We could position for this by shorting 10-year Treasury note futures, anticipating a potential move back toward the 4.1% yield seen earlier this summer. At the same time, call options on the U.S. Dollar Index (DXY) offer a direct way to profit from a flight to safety.
Gold Market Vulnerability
Gold is particularly vulnerable in this scenario, as a stronger dollar and higher real yields create a tough environment for the metal. After its strong run-up in the first half of the year to over $2,400 an ounce, gold could easily see a pullback toward the $2,300 level. We can use put options on major gold ETFs to position for this potential weakness.
We only need to look back to the market volatility during the 2022-2023 hiking cycle to see how quickly assets can reprice. The market consistently underestimated the Fed’s resolve to fight inflation then, leading to sharp sell-offs each time a hawkish reality set in. The risk is that we are seeing a similar bout of investor overconfidence today.
