Key Highlights

• Fed cuts rates by 25 bps to a 3.50–3.75% range, marking the sixth cut in the cycle

• Announces USD 40 billion per month in Treasury bill purchases

• Global long-term bond yields jump to multi-year highs amid inflation and borrowing concerns

• US dollar weakens, while equities show mixed and cautious trading

• Markets now expect a slower and more limited rate-cut path in 2026

Fed Rate Cut Sparks Mixed Market Response as Bond Yields Rise

The Federal Reserve cut its key overnight rate by 25 basis points in its December meeting, moving the policy range to 3.50%–3.75%. This marks the sixth cut in the current easing cycle and the third in a row. Along with the cut, the Fed announced it will purchase USD 40 billion in Treasury bills every month to support liquidity.

Despite the supportive move, financial markets did not react with full optimism. Bond yields climbed sharply, the US dollar weakened, and equity markets showed restrained gains. The reaction suggests that investors are unsure about how far the Fed can go with rate cuts in 2026, given the still-uncertain inflation picture.

What the Fed Announced — And the Message Behind It

The Fed’s latest decision signals a careful approach. While the rate cut aims to support growth, the central bank emphasised that future policy moves will depend on upcoming data.

Fed officials noted that if inflation stays high or if economic activity picks up faster than expected, the pace of rate cuts may slow. The central bank wants to avoid moving too quickly in either direction — neither aggressive easing nor a sudden halt to rate cuts.

The updated guidance reflects a balanced stance: supportive of growth, but aware of inflation risks that still remain.

How Markets Reacted: Yields Jump, Dollar Softens, Equities Stay Cautious

Bond Yields Rise Sharply

The most striking reaction came from global bond markets. Long-term yields surged to multi-year highs as investors reassessed the long-term outlook.

• US 10-year yield climbed to around 4.18%

• 2-year yield rose toward 3.61%

The movement suggests investors now demand higher returns for holding long-dated bonds, as they expect fewer rate cuts ahead.

US Dollar Weakens

The dollar index (DXY) dropped to about 98.6 — its lowest level since October 2025. This reflected both a risk-on shift and weaker expectations of aggressive future cuts.

Equities Show a Mild, Mixed Response

Stocks initially gained as lower rates generally support liquidity, but the rally faded quickly. Sectors sensitive to borrowing costs, such as technology, saw limited upside due to rising long-term yields.Overall, equity markets appear cautious rather than excited.

Why Bond Yields Jumped — The Hidden Hawkish Signal

Even though the Fed cut rates, the rise in yields shows that markets saw hints of caution in the broader message.

Key reasons include:

• Sticky inflation: There is still concern that inflation may not fall quickly, limiting how much the Fed can cut next year.

• High government borrowing: Heavy issuance of US Treasuries means long-term bonds must offer more yield to attract buyers.

• Lower expectations for 2026 rate cuts: Investors are beginning to price in a slower and shallower easing path, leading to a repricing of long-term yields.

The rate cut happened during a period of economic uncertainty — and instead of calming markets, it encouraged investors to reset their expectations.

Fed’s Outlook: A Careful and Data-Driven Road Ahead

Looking forward, the Fed is expected to continue taking a cautious path:

• Future cuts will depend on economic data, especially inflation and job numbers

• Treasury-bill purchases will help liquidity but may be adjusted based on market movements

• Persistent market volatility may limit the Fed’s willingness to cut aggressively

Many analysts now believe that the earlier hopes for sharper rate cuts in 2026 may not materialise. A slower, more controlled path appears more likely.

Final Word

The Fed’s latest rate cut underscores its intention to support growth, but the mixed market reaction highlights the complexity of the economic environment. Rising bond yields, a softer dollar, and cautious equities show that investors are unsure about the Fed’s next steps.

While the cut offers some relief, inflation risks, heavy borrowing, and shifting expectations mean uncertainty will continue into 2026. Investors may need to prepare for a year defined by careful optimism — steady central-bank support, but a more measured approach to future rate cuts.