09/16/2024 Market Strategy
The Time Has Come
Anticipation of Long-Awaited Rate Cuts Now Appears Beyond Wishful Thinking
Key Takeaways
- US equity markets rose over the course of last week, with the S&P 500 adding 4%. Bonds also rallied, sending the yield on the 10-year Treasury note 6 basis points lower to 3.65%—a level not seen since June 2023.
- The rally in the bond and stock markets was in part fueled by a Wall Street Journal article on Thursday that suggested that Fed officials may be more inclined to cut rates by 50 basis points at Wednesday’s meeting.
- The probability priced into the futures market of such an outsize move rose to 40% on Friday from just 4% earlier in the week.
- We discuss the likely size of the rate cuts at the September 18 FOMC meeting and argue that the conditions don’t warrant a dramatic move of 50 basis points. We expect the Fed will cut by 25 bps.
In our view, prospects for a first interest rate cut by the Fed appear more likely to be realized this Wednesday then at any time since March 2022 when the Fed began the current rate hike cycle.
A mix of monetary policy comments by Fed officials and the Fed Chair supported by economic data that suggests, in our view, that the timing for a cut is right. While economic growth, businesses, consumers, and job growth still show remarkable resilience twenty FOMC meetings into the current tightening cycle, evidence of slowing within the data that’s been released over the recent quarters along with the lag time inherent to making changes in monetary policy point to the likelihood of a 0.25% rate cut announcement by the Fed this week.
While the Fed’s 2% inflation target still remains elusive, recent data suggests the old adage “a stitch in time saves nine” may well apply.
While traders last week raised the odds for a 50 basis point cut this week to 40% from 4%, our view is that the state of the economy is good enough to avoid a larger than 25 bps cut that might suggest to business, the consumer, and some market participants that the economy is in trouble -- at or near recession.
In our view a rate cut announcement this week by the Fed is not a “now or never” moment in monetary policy that awaits the markets on Wednesday, but rather a time for the Fed to make a “down payment” or a “good faith deposit” for Wall Street and Main Street telegraphing the direction the Fed hopes to take in the months and quarters ahead.
A 0.25% rate cut to us suggests a prudent undertaking and a first step in the process of additional modest cuts to follow at a measured pace to provide a level of assurance that things are getting good enough to take a step in the right direction that reflects a level of prudence in keeping an eye on the direction and pace of inflation that has shown stickiness.
Recently lower mortgage interest rates and rallies in the bond market suggest to us that market constituencies are giving credence to a beginning of an end to the current rate hike cycle. That said, opinions differ with some believing the Fed needs to be pressed into action in order to avoid having current policy push the economy into recession while others consider the Fed likely on track to avoid a hard landing.
With the S&P 500 as of last Friday closing at 5,626.02, the benchmark stands some 0.75% from its record high of 5,667.2 reached on July 16, and nearly 18% above where it started this year. In our view the direction the benchmark has taken thus far this year has been supported more by better than expected earnings results than by expectations of rate cuts by some market participants who predicted rate cuts for January, March, June, July, and August.
We expect the Fed to consider additional rate cuts of 0.25% in November and December on an if-needed basis.
If the Fed doesn’t cut rates on Wednesday we’d expect the markets to react with disappointment. If the Fed cuts by 0.25% on Wednesday the market reaction may reflect a “buy the rumor sell the news” move in the near term.
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