FOMC Watch: First Blood

To summarize, we’re very likely on the eve of a US recession and a full-blown rate cut cycle. I agree with market pricing that the recession is likely to be mild, and that the Fed will cut the fed funds rate to levels broadly in line with the nominal neutral rate (i.e., around three percent). However, given high indebtedness, the risks are tilted to a more aggressive easing cycle, and a much lower fed funds rate. In any case, there are still opportunities: the September FOMC is still underpriced; the market is not yet fully on board with the pace of easing that one should expect based on historical precedent. Furthermore, the steepener trade has plenty of life left, with 100bps of steepening left according to a quick and dirty estimate.