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The dollar has been declining through most of this month ahead of Wednesday’s FOMC meeting. The expectation is that the Fed will cut rates by another 25 bps, matching its prediction from back in September. Markets have been interpreting dovish signals for the last couple of weeks, and are pricing in more easing for next year. However, this might have left markets slightly “oversold” on Fed easing, opening the door to a hawkish surprise.

Futures markets are pricing in a 90% chance of a rate cut at this week’s FOMC meeting. This means that there is a chance of a market reaction in either direction. On top of that, several other factors could shake up the markets. That includes the vote split, which has become increasingly relevant over the last couple of meetings. Perhaps most pertinent is that the Fed will update its so-called “dot-plot” matrix for next year. And there could be a substantial deviation from market expectations, which could drive the dollar and risk appetite in general.
 

What to Look Out For

With such a strong consensus for a 25 bps cut, if the Fed delivers, the market will likely take it in stride, limiting the decision’s downward effect. However, it is still possible that the Fed decides to keep rates unchanged, which would be a significant shock for the market. It might cause an initial rally in the dollar, but that would likely fade quickly as the risk-off move that followed could cause a significant reversal in the stock market.

The much more likely scenario is that the Fed eases and markets turn their attention to what comes next. At the moment, futures are pricing in a pause at the January meeting, followed by 100 bps of cuts through the course of next year. Traders will be looking for confirmation of that outlook, and the closer the Fed matches it, the less the market is likely to move. However, this opens several ways for the Fed to give the market a hawkish surprise.
 

What Could Move the Market

One aspect to look at is the vote count. Traditionally, the Fed votes unanimously, and it’s very rare to have just one, let alone two, dissenting votes. But, since US President Donald Trump appointed Stephen Miran as one of the Fed’s governors, dissenting votes have become more common. Miran has consistently voted for a larger easing measure, but at the last meeting, he was countered by Jeffrey Schmid, who dissented in favor of a hold. If there are more dissenting voters for a hold this time around, it could leave markets disconcerted. On the one hand, it would highlight growing division in the policy-setting body. On the other hand, it could indicate that Fed Chair Powell is having difficulty achieving consensus as his term comes to an end.

The other aspect is the focus of the accompanying monetary policy statement. Fed doves argue for cuts based on weakness in the labor market. Hawks point to inflation being still above target. If consumer prices are emphasized in the Fed’s rhetoric, it will likely be interpreted as hawkish. But if concerns over the job market are the central theme, then the takeaway is likely to be dovish.
 

What Will the Fed’s Dot-Plot Say?

The Fed updates its dot-plot matrix once every quarter, and the last time it did so was at the September meeting. At that time, the average of FOMC member predictions showed two rate cuts next year (assuming a cut in December). The market, on the other hand, is pricing in four rate cuts (a total of 100 bps).

If the dot-plot matrix is not updated to reflect additional rate cuts, the market is likely to interpret it as a hawkish sign. But it’s also unlikely that the Fed will forecast more than 100 bps of easing next year, putting the balance of the surprise for the markets towards hawkishness. And we should recall that the last time around, Powell had a more hawkish speech that surprised the markets as well.

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