How much will the Fed cut interest rates next year? Some traders are betting on a 250 basis point cut.

Zhitong App has learned that in the options market, at least one trader is preparing for the possibility of the Federal Reserve cutting interest rates by up to 250 basis points next year. If the Fed lowers the federal funds rate to around 3% before September next year, the trader's bet using the so-called SOFR options will pay off. It is reported that the premium for this trade is approximately $13 million. Analysis shows that if the federal funds rate drops to 2% at that time, this trade could generate a profit of $200 million.

Although this is an unusual bet that few people believe will happen, this trade demonstrates the increasing activity in SOFR derivatives, which is closely related to expectations for future central bank policies. Despite some previous trades being closed out, traders are now pushing these dovish bets into deeper stages next year.

The latest futures position data released by the Commodity Futures Trading Commission (CFTC) on Monday showed that hedge funds pushed net long positions in SOFR futures to a record high last week.

The basis trades of hedge funds (buying or selling futures against cash instruments) may partially reflect some positions, but the liquidity of SOFR futures on Monday included 40,000 large buyers of the December 2023 contract. Since traders have virtually ruled out any possibility of a rate hike in December, this position will benefit from it.

Traders are currently not considering further rate hikes, and their consensus is that the Fed will cut rates, although not by 250 basis points. Swap data shows that from the January meeting to the end of next year, investors are pricing in a rate cut of around 95 basis points.