The latest US interest rate decision, although meeting most market expectations with a one-point rate cut, has significantly raised inflation expectations since the September economic outlook, suggesting that the potential rate cut in 2025 may only be limited to two points. This has led to a swift rise in US long-term bond yields and a corresponding increase in the dollar. Meanwhile, the Bank of Japan has maintained its interest rates, causing the yen to depreciate rapidly to a nearly five-month low. How should we observe the situation going forward?
Conclusion: The Federal Reserve's recent rate cut appears to be a proactive measure, indicating limited scope for further cut in 2025, which has led to a temporary end to the bullish sentiment for US bonds and a bearish sentiment for the dollar, triggering the current downward trend in US bonds and upward trend in the dollar.

Figure 1 shows the economic outlook released by the Federal Reserve after the rate decision, which indicates that the real GDP for 2024 has been significantly raised to 2.5% from the September forecast, while the GDP for the fourth quarter of 2025 is projected to rise further to 2.1%. This reflects the Fed's confidence in the US economic performance, and revisions of the unemployment rate downwards for both 2024 and 2025 signal no major threats in the job market.

In a robust economic environment with stable employment, it is reasonable to expect inflation to rise. Therefore, the PCE price index for Q4 2024 is expected to rise slightly by 0.1 percentage points compared to the September forecast to 2.4%, while for Q4 2025, it is projected to increase further to 2.5%. Overall, the US is expected to witness solid GDP growth, low risk in the job market, and gradual inflation increase, implying that it would be unusual not to raise rates, which is why it is estimated that the benchmark rate may decrease slightly to 3.9% by the end of 2025.

The stock, currency, and bond markets have exhibited significant fluctuations following the interest rate policy announcement. Fortunately, the US PCE price index for November released on December 20 came in slightly below market expectations, with an annual growth rate matching the Fed's forecast of 2.4%, whereas the core PCE price index stood at 2.8%, alleviating inflationary pressure to some extent, though it has not changed market expectations that only two cuts will occur in 2025.

Figure 2 illustrates the implied 2025 interest rate trend from US rate futures as of December 20; after this rate cut, rates have reached a range of 4.25% to 4.5%, with the next opportunity to fall below 4.25% appearing in April 2025 with a rate of 4.185%. Thus, it is most likely that the next rate cut will happen on March 19, indicating a temporary halt in the rate-cutting trend in January, with the next cut possibly occurring in the fourth quarter as no rates below 4% are expected until October 2025.

Consequently, in light of the significant reduction in the rate cut trajectory and the rise in inflation, long-term US bonds are likely to be sold off, with the benchmark US 10-year bond yield reaching nearly 4.6% on December 19. If inflation continues to rise, discussions surrounding potential rate hikes may emerge again, in which case long-term bond yields may rise further.

Investors who have significant exposure to bonds may consider hedging their positions or engaging in lower-cost operations using the CME's 10-year yield futures (CME Product Code: 10Y). Figure 3 shows that the high points reached on November 15 at 4.49% and the high points on December 19 at 4.59% align with market conditions, giving opportunities for investors to operate based on their outlook.

Regarding the yen, despite the Bank of Japan maintaining its rates, the yen remains weak and has depreciated to its near five-month low. Fortunately, the Japanese government has yet to indicate any further intervention in the currency market, so it’s advisable to observe the situation as it oscillates in this weak trend. For those looking for short-term trading opportunities, yen futures offered by CME can be considered as a target.

To stay updated on the latest changes in US rate cut probabilities, investors can refer to the CME's free analysis tool, FedWatch, which can help provide real-time insights into the market's expectations for future trends.