As the December 10 Federal Reserve meeting approaches, the market is not only focusing on the confirmed rate cut measures; veteran Wall Street strategists point out that the Federal Reserve may soon announce a significant balance sheet expansion plan.
Recently, former New York Fed repo expert and Bank of America interest rate strategist Mark Cabana predicted that, in addition to the widely anticipated 25 basis point rate cut, Federal Reserve Chair Jerome Powell will announce a plan to purchase $45 billion in Treasury bills (T-bills) monthly next Wednesday, with this purchase operation officially implemented in January 2026, aimed at preventing further spikes in repo market rates by injecting liquidity into the system.
Cabana warned in the report that, although the interest rate market has reacted mildly to rate cuts, investors generally 'underestimate' the Federal Reserve's actions regarding the balance sheet. He pointed out that the current levels of money market interest rates indicate that reserves in the banking system are no longer 'ample,' and the Federal Reserve must fill the liquidity gap by restarting purchases. Meanwhile, UBS's trading department also provided a similar forecast, indicating that the Federal Reserve is likely to begin purchasing approximately $40 billion in Treasury bills monthly in early 2026 to maintain stability in the short-term interest rate market.
This potential policy adjustment occurs during a critical period of leadership transition at the Federal Reserve. As Powell's term nears its end and expectations rise for Kevin Hassett to possibly succeed him as Fed Chair, next week’s meeting is not only about short-term liquidity but will also set the tone for the monetary policy path over the coming year.
Former New York Fed expert predicts: $45 billion in monthly bond purchases
Although market consensus has locked in the expectation that the Federal Reserve will cut rates by 25 basis points next week, Mark Cabana believes that the real variable lies in the balance sheet policy. In his weekly report titled (Hasset-Backed Securities), he noted that the RMP size announced by the Federal Reserve could be as high as $45 billion per month, a prediction that significantly exceeds current market expectations.
Cabana detailed the components of this figure: the Federal Reserve needs to purchase at least $20 billion monthly to address the natural growth of its liabilities, in addition to needing to buy an extra $25 billion to reverse the reserve losses resulting from prior 'overly rapid balance sheet reduction.' He expects this level of purchasing to continue for at least 6 months. This statement is expected to be included in the Federal Reserve's execution instructions and detailed operational scales and frequencies will be published on the New York Fed website, with a focus on purchasing in the Treasury bill market.
According to a previous article by Wall Street Watch, since the Federal Reserve's balance sheet peaked at nearly $9 trillion in 2022, its quantitative tightening policy has reduced its size by about $2.4 trillion, effectively withdrawing liquidity from the financial system. However, even with QT halted, signs of funding stress remain evident.
The clearest signal comes from the repo market. As the short-term financing hub of the financial system, the overnight reference rates in the repo market, such as the Secured Overnight Financing Rate (SOFR) and the Triparty General Collateral Repo Rate (TGCR), have frequently and dramatically broken through the upper limit of the Federal Reserve's policy rate corridor in recent months. This indicates that the level of reserves in the banking system is sliding from 'ample' to 'adequate' and carries the risk of further moving towards 'scarce.' Given the systemic importance of the repo market, this situation is considered difficult for the Federal Reserve to tolerate long-term, as it may weaken the transmission efficiency of monetary policy.
In this context, recent statements from Federal Reserve officials also suggest the urgency for action. New York Fed President John Williams has stated, 'We expect to reach an ample level of reserves soon,' while Dallas Fed President Lorie Logan pointed out, 'It is appropriate to expect a restoration of balance sheet growth soon.' Cabana interprets 'soon' as referring to the December FOMC meeting.
A tool aimed at smoothing year-end fluctuations
In addition to the long-term purchase plan, in order to address the upcoming year-end funding fluctuations, Bank of America expects the Federal Reserve to also announce a term repo operation lasting 1-2 weeks. Cabana believes that the pricing for these operations may be set at the Standing Repo Facility (SRF) rate level or 5 basis points higher, aimed at reducing tail risks in the year-end funding market.
Regarding interest rate management, although clients have inquired whether the Interest on Reserves (IOR) will be lowered, Cabana believes that simply lowering the IOR 'doesn't solve any problems,' as banks tend to hold higher cash buffers in the aftermath of the Silicon Valley Bank (SVB) collapse. He believes it is more likely that the IOR and the Standing Repo Facility (SRF) rates will be synchronized to decrease by 5 basis points, but this is not the baseline scenario.
Another important backdrop to this meeting is the impending personnel changes at the Federal Reserve. The market currently views Kevin Hassett as a strong contender for the next Fed Chair. Cabana pointed out that once the new chairperson is determined, the market will price mid-term policy paths more according to the new leader's guidance.
UBS also agrees with the viewpoint of returning to balance sheet expansion. UBS's sales and trading department noted that the Federal Reserve can shorten the duration of assets by purchasing Treasury bills, thereby better matching the average duration of the Treasury market. Regardless of whether this operation is termed RMP or quantitative easing (QE), its ultimate goal is clear: to ensure that the financial markets can maintain stable operation during critical periods of political and economic transition through direct liquidity injection.
