FOMC Opts for Half-Point Cut in “Recalibration” of Policy
Our Views
- The 50bp cut is positive, as it shows the Fed is committed to keeping expansion healthy. The reasons behind stocks’ performance post-announcement do not negate the positive impacts from initial cut.
- With inflation softening, the mandate is now more focused on strong jobs. That acts as an implicit “put” on the equity market, as falling asset prices would threaten to weaken labor markets.
- We could be seeing turbulence for the next eight weeks, but this is also in the context of a very strong stock market in 2024 – one in which the S&P 500 has gained in seven of the last eight months.
- “Recalibration” seemed to be the word of the day from Chair Powell as the Fed cut rates by 50bps.
- As always, he made the point that future actions will be data dependent, but today’s decision gives the central bank room to move in any direction that incoming data might point toward.
- At his press conference, the chair repeatedly made the point that both the overall economy and the labor market are in good positions, and the rate policy is designed to maintain the current good direction.
- The next meeting is November 6-7, with the announcement the day after the election removing any concern with political overhang.
- Powell had to delicately “thread the needle” to explain the Fed’s view of why it was important to cut 50 b.p. if the economy was in good shape.
- Chair Powell’s “action” yesterday seemed different than the FOMC’s “expectation” as Powell maintained his “Data Dependent” theme and the lack of dovishness on the economy resulted in a meaningful reversal for the Bond market lower following this 50 b.p. rate cut.
- Short-term trends look to be breaking out in SPX, and QQQ following just a minor stallout earlier in the week. Bonds look to have made a short-term peak.
- Technically, Structure, momentum, breadth, lack of ebullient sentiment still make the case for Equities to rally despite signs of US Dollar and US treasury yields having stabilized near support.
One of the most aggressive hiking cycles in Fed history officially concluded yesterday afternoon when the Fed announced a half-percentage point cut, lowering the range of their benchmark rate to 4.75 - 5.0%. The decision follows months of data showing softening inflation, as well as a recently slowing labor market, which has shifted priority towards the second aspect of the Fed’s dual mandate: supporting "maximum sustainable employment".
In the days leading up to the September FOMC, markets were not debating whether the Fed would cut, but rather by how much. Following the August CPI release on the morning of September 11th, probabilities of a 50 bps cut, as implied by Fed Funds futures trading, plummeted as low as 12.5%. The next day, those odds surpassed the 30-40% seen just prior to the CPI release and then surged as high as 74% on the day prior to the FOMC decision. Probabilities moderated to 68% Wednesday morning, before settling to about 55% one hour before the announcement – almost a coin flip.
Those in favor of the more modest 25 bps cut saw it as giving the Fed more time to analyze and respond to the impact of the initial policy change. Those in the 50 bps camp saw the Fed at risk of falling behind the curve. Keeping rates too high for too long could risk impeding the soft landing scenario.
The ever-vacillating odds reflected a lack of clear messaging from the Fed in the period leading up the announcement. For an organization that had been telegraphing policy, this seemed to indicate a lack of consensus among voting members. This was confirmed, with Fed Governor Michelle Bowman voting against the half-point cut, becoming the first Fed governor to dissent since 2005 (and the first voting member to dissent since June 2022). “The reason this matters is the Fed is no longer relying on consensus to make rate decisions” noted Tom Lee, adding that he “actually thinks that is quite dovish.”
The major indices initially rose on the 2:00 pm ET announcement, but quickly reversed to end the day slightly lower, with the S&P 500 declining 0.29% to finish the session at $5,618. The only sector to rise on an absolute basis was Energy (+0.25%), with Industrials, Financials, Health Care, and Consumer Discretionary notching small gains relative to the broader market.
On market performance yesterday, Lee identified the rise in 10Y yields on the heels of Powell’s remarks, the technical backdrop, and the “dice roll” of historical odds after a first cut as culprits, but he did not see a case to negate the positive impacts from yesterday’s news. Lee cautioned against ignoring the “more important signal the Fed is now dovish” and highlighted that historically in the Fed "first cut" and “no landing” scenario that we find ourselves in, the 1M, 3M, and 6M returns are positive*. Remember, how equity markets trade in the next few weeks (or so) is noise.
At the widely anticipated post-meeting press conference, Powell justified the larger cut with the recent and sustainable progress on inflation stating, “we’ve waited. And I think that patience has really paid dividends in the form of our confidence that inflation is moving sustainably under 2%, so I think that is what enables us to take this strong move today.”
Perhaps anticipating that the more sizable cut could stoke fears of economic trouble on the horizon, Powell struck a reassuring tone, stating “I don’t see anything in the economy right now that suggests that the likelihood of a recession – sorry, of a downturn, is elevated.”
Turning to the labor market, Powell observed “the labor market is actually in solid condition. And our intention with our policy move today is to keep it there.” When asked if he expected a further deterioration in labor market conditions, Powell acknowledged that the situation “bears close watching” but countered that “with an appropriate recalibration of our policy we can continue to see the economy growing and that will support the labor market.” Also important was Powell's point that "we’re not seeing rising (unemployment) claims, not seeing rising layoffs, not hearing from companies that that’s something that’s going to happen.” Fundstrat Head of Data Science Ken Xuan and Head of Digital Assets Strategy Sean Farrell both saw this as a key comment, noting that the Fed apparently recognizes that it's not necessarily job losses, but rather an expansion of the labor force that we are seeing at the moment.
With regard to the size of future cuts, the Fed Chair once again emphasized data-dependence and a meeting-by-meeting approach, warning, “I do not think that anyone should look at this and say, ‘Oh, this is the new pace.’” An examination of the latest dot plot supports this, with the median estimate anticipating a further half-point of cuts by year-end spread over just 2 remaining FOMCs (November 6-7 and December 17-18).
On the morning following the announcement, the S&P 500 was up over 1%, demonstrating the market was beginning to digest yesterday's announcement and press conference positively.
*In the Fed first cut and “no landing” scenario (Jan '71, Oct '84, Oct '87, June '89, July '95, Sept '98, July '19) average forward return is positive on a 1M, 3M, and 6M basis. The win ratio is 100% for 3M and 6M, 71% for 1M.
