Topline
Market expectations tilted Monday to favor a larger interest rate cut when the Federal Reserve announces its hotly anticipated decision Wednesday, the latest shift for investors contending with unprecedented uncertainty about what the U.S. central bank will do next.
Federal Reserve chairman Jerome Powell will deliver a critical press conference Wednesday.
Key Facts
The market-implied probability of a 50 basis-point cut this week rose from Friday’s 50% to Monday’s 57% while the odds for a 25 basis-point cut slipped from 50% to 43%, according to futures contract data tracked by CME Group’s FedWatch Tool, the most widely cited proxy for investor expectations for movements from the highly influential Federal Open Market Committee.
It’s the first time since Aug. 13 the market has favored a 50 basis-point move, skyrocketing from just 14% odds of a jumbo cut as recently as last Wednesday.
The size of the Fed’s first rate cut since March 2020 represents a “weighty decision,” noted Yardeni Research founder Ed Yardeni in a Monday note to clients, as bond and equity markets’ recent volatility traces back to the oscillating expectations regarding the Fed.
In fact, this is the least confident the market has been ahead of a Fed meeting since at least 2015, when Bank of America began tracking the data on market-implied interest rate movements, according to strategist Gonzalo Asis.
Key Background
Since last July, the Fed-determined federal funds rate has sat at a target range of 5.25% to 5.5%, meaning traders are quibbling over whether the central bank will cut to a range of 5% to 5.25% or 4.75% to 5%. The federal funds rate only directly sets overnight lending costs between banks, but heavily influences borrowing costs across the U.S., including mortgages and business loans. Rates now sit at their highest level since 2001, with the Fed hiking beginning in 2022 to address sky high inflation. But inflation has since moderated, bolstering the case for rate cuts, with Wall Street’s focus now on whether the stimulatory pivot from the Fed will be enough to keep the U.S. out of a recession, fears worsened by consecutive months of much worse than expected labor market growth.
Tangent
Economists at leading U.S. banks are split on what they expect this week. The likes of JPMorgan’s top U.S. economist Michael Feroli have told clients they anticipate the Fed to “do the right thing” and cut rates by 50 basis points, while Goldman Sachs’ chief U.S. economist anticipates a 25 basis-point cut, explaining “larger cuts have historically come in the context of an obvious crisis or at least a layoff spiral,” which the U.S. is far from today.
What To Watch For
What the Fed signals it will do beyond this week. The FedWatch Tool prices in a 4% to 4.25% range as the most likely destination at the end of 2024, indicating a total of 125 basis points of cuts at the Fed’s three remaining meetings in 2024. Mericle expects the Federal Open Market Committee to update its statement to remove language expressing a lack of confidence in returning inflation to its 2% goal and to add language indicating its focus on keeping the labor market afloat.