The Federal Reserve’s “defensive” strategy, in this way, can be interpreted as either a “precise” market insight or a precautionary measure. The VT Markets Research Desk proposes the following perspectives for analysis.
Dot Plot Adjustments May Indicate Slower Rate Cuts
First, the Research Desk considers that during the December Federal Open Market Committee (FOMC) meeting, an 11:1 vote resulted in a rate cut to 4.25%-4.5%, aligning with market expectations. However, the updated dot plot projections surprised markets, slashing 2025’s expected rate cuts from four to two.
Although this shift caused short-term market ripples, VT Markets suggests the slower pace reflects economic resilience and labor market strength. The Fed appears focused on avoiding over-stimulation and carefully balancing economic growth against inflation risks.
Strong Economic Data Supports Policy Shift
The Summary of Economic Projections (SEP) reinforces the Fed’s cautious approach, with GDP growth forecasts for 2024 and 2025 revised upward from 2% to 2.5% and 2.1%, respectively. Core Personal Consumption Expenditures (PCE) inflation forecasts also rose from 2.2% to 2.5%.
Fed Chair Jerome Powell highlighted these optimistic trends during the Fed’s press briefing, emphasising that reduced job market risks and declining housing inflation are pivotal in shaping future rate adjustments.
Challenges from Trump Administration Policies and Inflation Balance
As the Trump administration prepares to take office, the potential impact of its economic policies on inflation and rate cuts remains a focal point. Powell acknowledged that Fed officials have considered factors such as increased tariffs and reduced corporate taxes in their projections. Historical data, however, suggests that trade policies have minimal direct influence on inflation. For example, the 2018-2019 trade wars did not significantly raise inflation due to the limited share of imports in overall consumption.
The Research Desk believes that oil prices remain the primary determinant of inflation trends. The Trump administration’s low-oil-price strategy could suppress inflation further, providing more flexibility for the Fed to maintain accommodative policies through 2025.
USD Rebound and Market Outlook
Driven by shifting Fed policies and robust economic data, the U.S. Dollar Index rebounded in Q4 2024, achieving three consecutive months of gains and reaching a two-year high in late November. However, VT Markets anticipates that as 2025 progresses, these expectations may begin to materialise. If inflation rebounds less than anticipated, the Fed could adopt a more dovish stance, potentially capping the Dollar Index’s upward trajectory.
Based on these insights, the VT Markets Research Desk advises investors to proceed cautiously, avoid aggressive long positions in the Dollar Index, and remain vigilant for range-bound risks. Monitoring inflation data and policy changes will be key to navigating the market in the coming year.
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