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Market pricing implies a 100% certainty of an interest-rate cut at Federal Open Market Committee’s meeting on July 30 and 31, from its current target range of 2.25% to 2.50%. Both stock and bonds have rallied in recent weeks on that forecast. Any deviation from the Federal Reserve’s dovish path could see a fair amount of those gains reversed, but even in an as-expected rate-cut scenario the devil lies in the details. Here are the four most likely ways that next week’s announcement could go, and how the Dow Jones Industrial Average and other indexes could respond:

Option 1: The FOMC leaves rates unchanged

If the FOMC pivots for a third time in 2019 and decides that the economic data in the U.S. and abroad no longer justifies monetary easing this month, stocks will likely drop in response. The conventional logic says that lower interest rates result in higher stock prices by reducing companies’ borrowing costs, spurring investment and economic activity, and reducing discount rates when calculating valuations. The optimistic economic news will likely go unappreciated.

Option 2: A quarter-point decrease with language suggesting more cuts to come

A quarter-point interest rate cut and an FOMC statement that leaves the door open to more easing before the end of the year is the highest probability outcome currently priced in by the bond market, which implies at least three cuts in 2019. The stock market’s potential reaction is the most ambiguous, however.

It could be a case of “buy the rumor, sell the news,” where the run-up in stocks over the past six weeks captures the full benefit of a July rate cut and some investors choose to take profits once it materializes. It could also add more fuel to the rally, and see stocks continue along their recent upward trajectory. After the initial reaction, the long-term path for stocks depends on whether the Fed is successful at extending the decadelong economic expansion or if growth continues to slow into a recession.

“In past mini easing cycles, risk assets rallied hard, posting gains every time...delivering strong double digit median returns in the six months following the start of easing,” wrote Deutsche Bank Chief Strategist Binky Chadha in a report on Tuesday. “However, in episodes which ended up in recessions, risk assets posted significant declines.”

Option 3: A quarter-point cut with hawkish language suggesting hold steady

The FOMC could choose to deliver the widely expected quarter-point rate cut in July and then return to its data-dependent, wait-and-see approach as the economy digests the modest decrease. Wells Fargo Acting Chief Economist Jay Bryson described what that messaging would look like:

“‘Uncertainties’ in the outlook would be used to justify the meeting’s cut, but the statement would evoke a willingness to see how some of these uncertainties and the economy unfold given the additional policy support enacted,” Bryson wrote in a report on Monday. “We would expect to hear a more positive tone on recent data and have Powell remind us that the FOMC is data dependent. In addition, we would expect to hear more about the downsides of offering too much accommodation when the economy is still solid, such as the potential for financial imbalances to build.”

U.S. stocks would likely react negatively to the possibility of less monetary easing later in 2019.

Option 4: A half-point decrease

The FOMC may point to low inflation and the need to be proactive in staving off further slowing in the U.S. economy and lower interest rates by half a percentage point all at once. Bond market pricing implies a 24% probability of a double cut next week, which Bryson calls a “shock and awe” scenario for the Fed. On one hand, even lower rates provide more fuel for stocks to keep rallying, but the fact that the FOMC sees the economic data deteriorating enough to justify a more aggressive move in July could backfire.

“A [0.50 percentage point] cut could suggest that the economy is in a more precarious position than it currently is,” Bryson wrote. “Business and consumer confidence could suffer, while markets get spooked.”

Write to Nicholas Jasinski at nicholas.jasinski@barrons.com