By Lewis Krauskopf and Davide Barbuscia
NEW YORK (Reuters) – Probably essentially the most consequential Federal Reserve meetings in recent history has put investors’ focus squarely on one query: whether the central bank has kicked off its rate cutting cycle in time to keep up the economy from slowing too rapidly.
The Fed delivered a 50 basis point rate cut on Wednesday – lowering borrowing costs for the first time in greater than 4 years – and warranted investors the jumbo-sized reduction was a measure to safeguard a resilient economy, barely than an emergency response to recent weakness inside the labor market. Bets on the scale of the speed cut swung within the times before the meeting and were near a superb split on Wednesday morning.
The degree to which Powell’s outlook pans out is more prone to be a key think in regards to the trajectory of stocks and bonds for the remaining of 2024.
Prospects of a “soft landing,” where the Fed brings down inflation without pushing the economy into recession, have lifted stocks and bonds this yr, though signs of a softening labor market have fueled worries that the Fed is also too late in acting to shore up growth.
“Immediately, it looks as if the market goes to pause to digest what was to many a surprise,” said Eric Beyrich, co-CIO of investment advisory firm Sound Income Strategies. “There’ll still be people considering, ‘wow, If the Fed cuts big like that, what do they see that we’re not seeing which means the economy will worsen?’”
Market response on Wednesday was relatively subdued as stocks, Treasuries and the dollar retraced initial, post-decision rallies. The S&P 500 ended down 0.3%, after rising as much as 1% throughout the session. The index is up nearly 18% this yr and stands near a record high.
In comments following the selection, Powell called the move a “recalibration” to account for the sharp decline in inflation since last yr and said the central bank desired to remain ahead of any potential weakening within the roles market.
Some investors were skeptical of that sunny view.
“Despite what Chair Powell is saying inside the press conference, a 50 basis point move does indicate that there’s concern that they’re behind the curve,” said Josh Emanuel, chief investment officer at Wilshire.
Emanuel said he was already chubby bonds coming into the meeting, favoring investment-grade credit over riskier high-yield bonds ahead of an expected deterioration inside the economy.
Many others, nonetheless, believed the speed cuts were a positive development for the market and would buoy the economy.
“I think that this dramatically increases the chances of the Fed with the flexibility to stay the landing, which ultimately could be bullish for risk assets,” said Jeff Schulze, head of economic and market strategy at ClearBridge Investments.
Indeed, stocks have performed well following rate cuts – as long as the economy stayed out of recession. The S&P 500 has posted a median 14% gain inside the six months following the first reduction of a rate-cutting cycle, when the Fed cut in a non-recessionary period, data from Evercore ISI going back to 1970 showed. That compares to a 4% decline in that period after the initial cut when the economy is in a recession.
Rick Rieder, chief investment officer for global fixed income at BlackRock, said investors could have overreacted to recent labor markets reports that had can be found in weaker than expected. Other data, akin to gross domestic product growth estimates, continued to indicate a resilient economy.
“I think the markets got ahead of themselves again on the subject of interpreting that data was very soft,” he said. “Chair Powell said it’s a solid economy, and it’s.”
LONG-TERM ADJUSTMENTS
Fed officials updated their views on rates of interest from their latest June projections, but while they now anticipate deeper cuts, those rate forecasts remained above market expectations of a more accommodative central bank.
The Fed said it expects the Fed funds rate – currently inside the 4.75% to 5% range – at 3.4% by the tip of next yr, while rates traders are betting on about 2.9%. Also, the Fed’s endpoint for rate cuts reflected a slight upgrade, to 2.9% from 2.8%.
The outlook gap could have sparked a reversal in Treasury markets, sparking a selloff in longer-term Treasuries on Wednesday. The benchmark 10-year Treasury yield, which moves inversely to bond prices, stands at around 3.73 after touching its lowest level since mid-2023 earlier this week.
“By means of the pace at which cuts were priced in, I think it’s a right response,” said John Madziyire, head of U.S. Treasuries and TIPS at Vanguard, who was betting on long-term yields moving higher.
Others were looking even further out, with some pointing to the of the U.S. presidential election as potentially complicating the trail for rate cuts going forward.
“If trade wars were to ensue under a Trump presidency, that will thoroughly be negative for fixed income,” said Andrzej Skiba, head of U.S. fixed income for RBC Global Asset Management. “That could be inflationary and limit the Fed’s ability to cut rates”
(Reporting by Lewis Krauskopf and Davide Barbuscia; Additional reporting by Suzanne McGee; Editing by Ira Iosebashvili and Muralikumar Anantharaman)