Wall Street remains deeply divided over whether the Federal Reserve will cut rates at its next meeting in September. However, there is broad agreement on one point: the upcoming inflation report, scheduled for release on Wednesday, will be pivotal in determining the central bank's next move.

Trading data from the swap market currently suggests that traders estimate a roughly 50% probability of the Fed cutting rates by 25 basis points. Molly Brooks, a US rates strategist at TD Securities, indicated that if the inflation data comes in higher than anticipated, the probability of a rate cut could surge significantly. Conversely, if the data is weaker than expected, it could provide policymakers with more room to maintain their current stance.

"We believe this data release is crucial for the September decision," Brooks stated. She added that the market reaction might be asymmetrical, with an above-forecast inflation figure having a much greater impact on rate-cut expectations than a below-forecast reading.

As the market awaits the inflation report, US Treasuries showed little movement on Wednesday. The benchmark 10-year Treasury yield fell by 1 basis point to 4.68%, while the 30-year yield declined to 5.23%.

Some US Treasury traders believe the market's pricing of a hawkish Fed is currently higher than what economic fundamentals can support. As a result, they are betting that the upcoming data will force a reassessment of market expectations. Ruben Hovhannisyan, a fixed-income portfolio manager at TCW Group, stated, "We anticipate a bull steepening of the curve as the very hawkish pricing at the front end is unwound. Our overweight position is concentrated at the front end."

However, recent data releases also suggest that the economic landscape could shift rapidly. Following last month's CPI report, which showed the first decline in inflation since 2020, the two-year Treasury yield fell by 14 basis points. Last week's employment report revealed that US employers unexpectedly cut jobs in July, prompting traders to further reduce their rate-cut expectations.

In a report last Friday, Goldman Sachs Group interest rate strategists said that the slowdown in job growth "may have raised the bar for core CPI" to reach a level that would clearly cement a September rate cut as the most likely outcome.