- The Fed decision is set to test market expectations of 125 basis point rate cuts in 2024, producing potential trading opportunities on GBP/USD or USD/JPY.
- The rate decision is a formality but the Fed could opt for a cautious tone once again, pushing back against market expectations of rate cuts.
- Meanwhile, the USD/JPY chart indicates a downtrend, with the potential of a break below 145.
All the attention will be on the FOMC's final policy decision of the year today, with no expectations of further rate hikes.
The market's pricing of 125 basis point rate cuts in 2024 will be tested, and given the Fed's cautious approach, there's a likelihood that Powell and the team will resist these expectations during today's meeting.
Whether the market will trust the Fed's stance remains uncertain. I'm monitoring two contrasting trades based on the Fed's hawkishness: considering short positions on GBP/USD or USD/JPY.
Key factors to watch in today's FOMC rate decision
The rate decision itself is a foregone conclusion, but more important will be the FOMC staff projections, the dot plots, and Powell's press conference.
The Fed believes current monetary policy is sufficiently restrictive to bring inflation sustainably down to its 2% target in the coming months, reducing the likelihood of strong hints about further tightening.
CPI data on Tuesday leaned slightly on the stronger side but in the right direction, while the job market is cooling, albeit resilient given the tight monetary policy.
Against this backdrop, it's expected that FOMC officials will signal a few rate cuts in 2024 in the dot plots. But it could very well counter market expectations of a 125-basis point rate reduction.
The historical tendency of Fed officials to be cautious and lag behind market pricing suggests a more measured approach should be expected.
The FOMC's Q3 projections estimated interest rates reaching 5.1% in 2024, requiring two 25bp cuts next year. If the Fed adheres to this projection, it could trigger a hawkish surprise, potentially resulting in a sharp US dollar rally.
However, if their stance aligns more closely with market expectations, then the dollar's reaction is likely to be muted and it could even end up lower in the session.
Additionally, changes in the Fed's inflation projections for 2024 will be of interest after signaling a core PCE price index decline to 2.6% in September.
More central bank rate decisions to follow on Thursday
After the Fed's decision, attention will shift to major central bank meetings in Europe: the Bank of England, European Central Bank, and Swiss National Bank.
While these banks are expected to maintain their policies, the BoE may adjust its tone due to soft economic indicators.
The ECB, facing consistently weak economic data, might be expected to signal a rate cut next year, impacting the euro and DAX.
So how to trade the FOMC rate decision?
In trading the FOMC decision, it is essential to wait until at least the dot plots are released. If the Fed turns out to be more hawkish than expected, then this could prompt a dollar rally.
In this case, pairing the dollar against currencies with softer economic data or anticipating quicker dovish turns by their central banks, could be the way to go.
The BoE and GBP come to mind. The GBP/USD has already shown signs of a possible bearish reversal around the 1.2600 resistance area, but so far key support around 1.2500 has held firm, where we also have the 200-day average.
However, a stronger pushback on rate cuts could see the cable break below the 1.25 handle.
Conversely, if the Fed aligns with market expectations, a negative-dollar and positive-bond reaction will increase the appeal of long setups on gold, silver, and JPY trades (i.e. shorting USD/JPY or GBP/JPY).
It's worth noting that the market's reduced expectation of a dovish Fed since Friday's jobs report could limit the upside potential for the dollar, even if the Fed is more hawkish than expected. 
The USD/JPY broke down sharply before bouncing back from around its 200-day average near the 142.00-142.50 support area.
However, the lower lows suggest the path of least resistance remains to the downside unless it manages to reclaim broken support at 147.30ish.
Short-term resistance at 1.46.20ish has held firm so far. A break below 145.00 could potentially trigger a sharp follow-up technical selling.
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