What’s Behind the 78% Odds of a Fed Rate Cut in December?

U.S. stocks rose on Wednesday as traders reacted to October's inflation numbers, which met economists' expectations. The data suggested inflation is cooling, but uncertainty remains, particularly about the Federal Reserve's next steps.

Here’s a breakdown of the key takeaways from the October Consumer Price Index (CPI) and its potential impact on the economy.

Inflation Numbers in Line with Expectations

The Consumer Price Index (CPI) showed that consumer prices grew by 0.2% in October, pushing the annual inflation rate to 2.6%.

This was slightly higher than the previous month’s 2.4%, but still in line with Wall Street's predictions. Excluding food and energy, the core CPI rose 0.3% month-over-month, bringing the annual core inflation rate to 3.3%.

While inflation remains above the Federal Reserve’s 2% target, the numbers weren’t a big surprise, which kept investors optimistic about the Fed’s next steps.

Market Reaction: A Fed Rate Cut in December?

Following the CPI release, traders boosted their expectations that the Federal Reserve will cut interest rates by another quarter-point in December.

The chances of this rate cut jumped to 78%, according to the CME FedWatch tool, up from 59% the day before. Investors are hopeful that the Fed will ease monetary policy further to support economic growth, especially with inflation showing signs of moderation. However, some analysts warn that the Fed may only make one more rate cut before pausing to assess the economy.

What’s Driving Inflation?

Despite signs of inflation easing in some areas, there are still sectors driving price hikes. Shelter costs, which make up about a third of the CPI, rose sharply by 0.4% in October, double the increase from September. Used car prices also saw an uptick, climbing by 2.7%. Energy costs were flat, and food prices rose modestly by 0.2%.

These mixed signals suggest that inflation is slowing but remains persistent in key areas.

The Impact of Political Uncertainty

Inflation and its effects are complicated by political factors. President-elect Donald Trump's policies, including potential tariffs and increased government spending, add uncertainty. While these actions could boost growth, they might also worsen inflation. This has made it harder to predict the Fed’s next moves, with some experts suggesting a pause in rate cuts as early as January.

Global Market Reactions: A Tale of Two Economies

While U.S. stocks surged after Trump’s election, foreign markets are feeling the strain.

Fears of a global trade war, particularly with China, have caused stocks outside the U.S. to tumble. Analysts warn that Trump's tariffs could push the global economy into a recession. These tensions have created a stark divide: U.S. equities benefit from the "Trump Trade," while international markets face losses.

Conclusion: What’s Next for the Fed?

The outlook for the U.S. economy is uncertain, but inflation appears to be moderating, even as it remains a challenge. The Federal Reserve is expected to cut rates in December, but how much further they will go in 2025 is unclear. Political factors, including Trump's economic policies, will play a significant role in shaping the future of inflation and interest rates. For now, investors are hopeful that the Fed will continue to support the economy.

As the market braces for potential Fed rate cuts, savvy traders are always looking for ways to gain an edge, especially in uncertain times.

One of the most successful strategies to navigate market volatility is options arbitrage, a method pioneered by legendary quantitative trader Edward Thorp.

While inflation numbers and Fed decisions influence the broader market, Thorp's approach to risk-free, high-reward trades offers a fascinating example of how to profit without the same level of market exposure.

In this video, we'll break down Edward Thorp’s 30-year winning options arbitrage strategy, revealing how he beat the stock market year after year. We'll explore how you can apply this strategy today using modern tools like bar charts and options calculators to craft almost risk-free trades.

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