Week Ahead: FOMC Trade

Flows and hedging pressures

Hello everyone,

I have noted significant developments with the positioning tension and we are now moving into FOMC this week. I am going to lay out the context for this week and then lay out how my models and strategies are framing equities and interest rates.

First, please review the following articles to contextualize my comments below:

• Alpha Report: ES Trade, Interest Rates, and Positioning Unwind

• Positioning Update

• All The Trades I Opened: Summary / End of Week

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We are moving into FOMC and NFP this week which will directly impact interest rates and equities.

I want to start with one big picture thing that is critical to know at this point in the cycle: The spread between Fed Funds and Inflation. What people don’t realize is that the Fed is always targeting a spread between inflation and Fed Funds. You will notice that Fed Funds is significantly above core inflation right now:

Think about why. The Fed could theoretically just move the discount rate in lockstep with inflation using a little bit of variability for growth. They don’t do this because they are targeting a holistic impact on BOTH inflation and growth. As I noted in last weeks report (link), the Fed has kept this spread elevated in 2023 due to the acceleration in growth and also kept the spread elevated in the first half of 2024 due to the marginal acceleration in inflation.

Growth has softened considerably from its 2023 level and has marginally surprised to the downside. However, we are not in contraction. Additionally, inflation continues to decelerate. BOTH of these factors imply that the spread between Fed Funds and inflation should be LOWER.

This brings us to FOMC this week. Right now the market is pricing in no change for the meeting. The real question is WHEN the Fed will begin cutting and IF there will be consecutive cuts following this. If the market knows cutting begins in September and there will be consecutive cuts at every meeting into December then it can begin to price a total of 75bps in cuts.

The way that the remainder of this year gets priced, sets the stage for how 2025 gets priced. The market is pricing a 3.60% Fed Funds rate by the December 2025 meeting. This will be an important contract to watch because its pricing is dependent on HOW this week unfolds.

This brings us to the trades I have been running and how my models are mapping the risk-reward of assets for this week.

Trades: