US RATE FUTURES-Sense bigger Jan Fed cut on ISM, minutes

(Recasts with FOMC meeting minutes)

By Ros Krasny

CHICAGO, Jan 2 (Reuters) - U.S. short-term interest rate futures, already buoyant following a weak reading on the U.S. factory sector, held their gains on Wednesday after the release of minutes from the Federal Reserve's December policy meeting.

Dovishly construed comments from the Federal Open Market Committee meshed with the market's view that the Fed has more interest rate cuts in store, starting with its Jan. 29-30 meeting.

"The first set of FOMC minute headlines are, on the face of it, mildly dovish," said Alan Ruskin, chief international strategist with RBS Greenwich Capital in Greenwich, Connecticut.

The minutes, on top of the Institute for Supply Management's December survey of factory activity, helped reshape the debate about the January FOMC meeting.

Questions now center not on whether the Fed will cut rates again, but by how much.

Rate futures showed as much as a 30 percent chance that the Fed could cut its benchmark lending rate by 50 basis points this month FFG8. Earlier, a 25-basis-point ease was favored but not fully priced.

The FOMC has lowered its benchmark lending rate by one full point since mid-September, to 4.25 percent. Futures EDZ8 now also suggest an end-point to the current easing cycle of about 3 percent.

In the minutes, FOMC policy-makers said that downside risks to economic expansion had risen, with growth during 2008 "likely to be somewhat more sluggish" than expected at the October meeting.

Some on the committee were also said to believe that tighter credit conditions could restrain growth and require "substantial" easing.

"Combined with data released since this meeting, the Fed will cut rates again at their next meeting on Jan. 29-30. We anticipate even more easing beyond that meeting," said Steven Wood, economist at Insight Economics.

Earlier, the closely watched ISM index for December slumped to 47.7, the lowest since April 2003, and was far short of the consensus forecast of 50.4. A reading below 50 indicates contraction.

ISM's new orders measure fell to 45.7 from 52.6, and the employment index was below 50 for a second month.

The reading suggested the U.S. factory sector heading into year end was in much poorer shape than a series of regional activity indices had suggested. For details, see [ID:nN02146428].

Most analysts said the December ISM reading by itself did not guarantee that the U.S. economy is heading to recession.

"The levels we see here are consistent with past slowdowns that did not lead to recessions," said Adam York, economic analyst at Wachovia Securities in Charlotte, North Carolina. The reading "remains consistent with growth in the overall economy, with a real GDP growth rate of 1.8 percent." (Editing by Jonathan Oatis)