We expect the Fed to hold rates steady for the fifth straight meeting and largely maintain existing signals about the policy outlook. This decision is unlikely to be unanimous, however, as we expect two governors Waller & Bowman to dissent for the first time since 1993. Fed Chair Powell is likely to maintain his near-term outlook that inflation will accelerate in coming months, allowing him to emphasize a patient approach to rate cuts. In terms of near-term policy, Powell is unlikely to remove a September rate cut from consideration nor intentionally raise the probability of that outcome. In our own view, Powell's concerns with goods inflation is misplaced. Our own assessment is that there will be a three-way division between the tariff impact. First part being borne by the exporter, 2nd part being borne by the intermediary & the third part being borne by the end consumer. Hence a 18% trade weighted average tariff implies maximum 6-7% increase in good prices. And these will be a one-time impact. But in CPI basket itself, service disinflation is there to stay for some time in light of the fact that OERs & primary rents are now slowing and this trend continues for mostly 12-18 months. Hence any uptick in good inflation might be reduced by service disinflation. At the same time, we see corporate balance sheet being affected adversely by the falling margins & the household balance sheet being affected by low real income as well as over leverage. Hence US economy is posed for a deep slow down if the current high real rates continue. For the same reasons, we expect two cuts of 25 bps each in Sep & Dec followed by a total 75 bps cut in H1CY26. We also observe that despite the lack of new developments at this FOMC meeting, four months of softer core inflation is slowly pushing the center of the committee (Governor Mary Daly) closer to being comfortable with resuming rate cuts. Market Implications: We expect DXY to remain in range of 95-100 in medium term. We like to receive short end 2yr UST yields as well as 1yr-1yr ahead rates at current levels of 3.92 & 3.28 respectively as markets are pricing in only 93 bps of cut in 12 months from now against our expectations of 125 bps. Position sizing in above is critical as markets are volatile. Long-end specially 10yr UST is range bound in 4.20-4.55 in medium term.
