On the eve of the Federal Reserve's decision, the market "sets a record" by betting on a "50 basis point rate cut"

On the eve of the Federal Reserve's interest rate decision in September, the market's expectation for a 50 basis point rate cut has become increasingly strong.

According to compiled data from Bloomberg, trading volume in October federal funds futures contracts, which bet on this week's Federal Reserve interest rate decision, has risen to the highest level since 1988. Most of the new contracts are betting that the Federal Reserve will cut rates by 50 basis points, with one-third of positions being newly established this week.

After mainstream financial media outlets such as "Fed Communication Agency" repeatedly hyped up the expectation for the Federal Reserve's first rate cut following articles and opinions, the market suddenly shifted its expectation from a 25 basis point cut to "a more likely significant rate cut".

Currently, implied market odds show that the probability of a 50 basis point rate cut by the Federal Reserve before the decision is slightly higher than 50%. Meanwhile, U.S. bond yields have dropped significantly this week, with the 2-year U.S. bond yield hitting a two-year low of 3.52%.

As of Wednesday, the CME Group's FedWatch tool indicates that the probability of a significant 50 basis point rate cut by the Federal Reserve is as high as 63%, far exceeding the 30% from a week ago, while the likelihood of a "standard" 25 basis point cut is only 37%.

Data from the Commodity Futures Trading Commission (CFTC) shows that as of the week ending September 10, hedge funds increased their net short positions on long and ultra-long bonds, with each basis point increase amounting to approximately $6.4 million. Morgan Stanley's client survey for the week ending September 16 also indicated that despite long positions being closed out that week, investor sentiment remains bullish.

Bank of America strategists stated in a report:

"The global rise in interest rates is leading people to believe that interest rate long positions are the most crowded trade, surpassing stock long positions for the first time."

Sue Subadra Rajappa, Head of Interest Rate Strategy at BNP Paribas, warned that if the Federal Reserve cuts rates by a smaller margin and Powell hints at a gradual easing approach, the market may face significant selling pressure.

"If the Federal Reserve cuts rates by 25 basis points instead of 50 basis points, the market reaction will be much stronger. The current market positioning, optimism, and loose financial conditions may be put to the test."

Kathy Jones, Chief Fixed Income Strategist at Charles Schwab, expects that short-term U.S. bonds, which are more sensitive to Federal Reserve policy, may be most affected, especially considering that they are "already priced quite aggressively"