Aggressive rate cut bets sweep the financial markets! More and more traders are betting big on the Fed cutting rates by 50 basis points

According to the Zhitong Finance and Economics APP, interest rate options traders have recently increased their bets on the Federal Reserve cutting interest rates by 50 basis points this month. This reflects a growing speculation that Fed policymakers will take aggressive rate-cutting actions to prevent further slowdown in the US economy. Options trading linked to the Secured Overnight Financing Rate (SOFR) shows a significant increase in open positions or positions held by traders in many call contracts expiring on September 13, the five days before the Fed policy meeting announcement. This indicates that more and more traders are using real money to bet on the Fed cutting rates by 50 basis points to boost the weak US labor market and economic growth.

If Friday's non-farm payroll data report and next week's Consumer Price Index (CPI data) show that the US labor market and inflation rate have cooled sufficiently to justify a faster easing policy, then the dovish bets of these traders will pay off. Currently, swap contracts indicate a one-third probability of the Fed cutting rates by 50 basis points this month.

"The labor market has clearly slowed down and is now catching the Fed's attention," said Priya Misra, portfolio manager at Morgan Stanley's asset management division. "With the federal funds rate at 5.25-5.5%, the economy is slowing down, and the lag time between monetary policy and the economy is known to be long and variable. I believe there is a high probability of a 50 basis point rate cut."

Option Accumulation - Despite stable price trends, the number of open option contracts has surged

The bond market's strong rebound has pushed the yield on the 10-year US Treasury back to last month's lows when unexpectedly weak US non-farm payroll growth and a higher-than-expected unemployment rate raised concerns about the US heading towards a recession. Morgan Stanley's latest survey found that clients have increased bullish bets on the US Treasury market and reduced short positions.

Economists generally predict that Friday's non-farm payroll data will show a slight rebound in job growth in August, reaching around 165,000 new jobs, enough to lower the unemployment rate but still far below the strong growth pace earlier this year.

Following the outbreak of the COVID-19 pandemic, credit crisis, and bursting of the dot-com bubble, the Fed had previously cut rates by 50 basis points or more in a single move to boost the economy. However, with the economy still growing and stock prices not far below this year's peak levels even after recent declines, the need for hasty rate cuts by the Fed seems less clear now.

But after Fed Chair Jerome Powell delivered a dovish speech at the Jackson Hole Global Central Bankers' Annual Symposium, options trading betting on this move accelerated, with some believing that his speech opened the door for this action. In his speech of less than 20 minutes, Powell made the most explicit signal from the Fed on rate cuts, not only officially mentioning that "the time for monetary policy adjustment has come," implying an upcoming rate-cutting cycle, but also hinting through various wordings that the Fed's future main task is to avoid economic recession Also need to ensure an economic soft landing.

Undoubtedly, traders have recently suffered losses due to aggressively betting on the Fed's rate cut path, so many people are still aware of the risks. For example, at the end of 2023, the bond market rebounded strongly as expectations of the Fed's rate cut cycle starting earlier this year and the possibility of a rate cut of up to 150 basis points, but these gains were once completely wiped out when the US economy showed astonishing strength.

"In general, there is a huge divergence in the market on whether the first rate cut in September will be 25 basis points or 50 basis points." Jonathan Cohen, head of US rate strategy at Nomura Securities International, said. "This almost entirely depends on the data from the labor market," "If the unemployment rate and layoffs reach certain thresholds, then a 50 basis point rate cut is absolutely feasible."

Here is an overall overview of the latest position indicators in the interest rate market:

JPMorgan Survey

The latest survey data from JPMorgan shows that in the week ending September 3, the increase in long positions in US Treasuries and the decrease in short positions increased JPMorgan's clients' net long positions by 7 percentage points.

JPMorgan Treasury All Client Position Survey - Clients Thoroughly Bullish to the Highest Level Since December Last Year

Thoroughly bullish positions have surged to the highest level in two weeks, with these Treasury betting data reflecting JPMorgan's clients' increasing bets on a Fed rate cut, betting heavily that the Fed may cut rates by 100 basis points this year - that is, one of the meetings from September to December is expected to announce a 50 basis point rate cut.

More and more traders are targeting the first rate cut of 50 basis points

The weekly volatility of open positions in options continues to be driven by the accumulation of multiple bullish options in September, which will benefit from a 50 basis point rate cut at the policy meeting on September 18. On Tuesday, as familiar bullish option spread structures and condor structures were bought, this momentum continued, with open positions showing new risks.

Most Active SOFR Option Exercises - Top 5 and Bottom 5 Weekly Net Changes in SOFR Option Exercises

According to the market's betting structure, especially with a large number of bullish option positions concentrated in the 95-95.5 point range, it can be seen that traders are betting on a significant downward trend in future interest rates. These positions indicate that traders increasingly expect the likelihood of a 50 basis point rate cut at the Fed meeting in September 2024 The purchase of "call spread" and "condor" structures mentioned above further supports this expectation. These structured strategies are typically used for risk management when anticipating significant market changes, especially in the case of expecting a substantial interest rate cut, these strategies can provide investors with potential profit opportunities when interest rates fall.

SOFR Options Heatmap

In SOFR options expiring before March 2025, due to the upcoming non-farm payroll data, unemployment rate data, CPI data next week, and potential risk events before the Fed meeting, the call option levels remain around 95. In the past few trading days, there has been a significant increase in various upward hedging demands around the September options, indicating that the aggressive 50 basis points rate cut bet is heating up.

SOFR Options Open Interest Contracts - Top 20 Open Positions as of March 2025 SOFR Options Deadline

The chart above provides the distribution of open interest positions in SOFR options, showing the overall open interest situation of options with different expiration months. From the chart, it can be seen that the vast majority of open interest positions are concentrated around the 95 to 95.5 strike price range, which is also the exercise price range betting on a 50 basis points Fed rate cut, indirectly reflecting the expectation of a future 50 basis points rate cut. This means that if the Fed adopts an aggressive easing policy of cutting rates by 50 basis points or more, these call options will become very valuable.

These SOFR options data indicate that the market is actively preparing for the Fed's possible aggressive rate cut - a 50 basis points rate cut in September. The changes and concentration of open interest positions indicate that investors have a strong expectation of a rate cut and are using options market to implement corresponding strategies.

Position Fluctuations in the Futures Market

Statistics from the U.S. Commodity Futures Trading Commission (CFTC) show that in the week ending August 27, asset management companies and leveraged hedge funds saw significant position changes in U.S. Treasury futures. Asset management companies tacitly continued to unwind net long duration positions, liquidating the equivalent of approximately 435,000 10-year U.S. Treasury futures contracts. Leveraged hedge funds took a different approach, covering approximately 670,000 10-year U.S. Treasury futures contracts in the net short position across the entire strip.

Risk Preference Returning to Neutral

After a high proportion of call option premiums due to traders seeking a continued market uptrend a few weeks ago, the premium paid for hedging market risks has remained close to neutral in terms over the past week. In recent trading of government bond options, a buyer purchased a put option on 10-year government bonds with a target yield of around 4% by September 20, paying a premium of up to $7 million for this option.

This indicates that the buyer expects bond prices to fall (i.e., yields to rise), hence the interest in put options. If the buyer believes that the 10-year government bond yield will rise to 4%, this implies that the buyer has completely different expectations compared to traders betting on a 50 basis point rate cut in terms of U.S. inflation data, economic performance, or Fed policy. The buyer's behavior seems to be more of a bet that the Fed will not engage in aggressive rate cuts, or that market expectations for future rate cuts will weaken, or even that the Fed may maintain higher interest rate levels in the long term.