Many agreed that the Fed had a difficult challenge yesterday:
- Acknowledge the signals from lower bond yields around the world market without appearing to be kowtowing to markets;
- Demonstrate independence while reaching the same conclusion as the Trump administration; and
- Admit that growth is slowing and challenges to global economies are more acute without suggesting that a recession is imminent.
In short, demonstrate that they “get it” – unlike in December 2018. Based on the market’s initial reaction – mission accomplished!
At least so far. The Fed held rates steady, but through their “dot plot” indicated that short-term and long-term expected interest rates are lower than in March – declining by approximately 25 bps and
10 bps, respectively. Most importantly, the Fed removed the word “patient” from its policy stance – a carefully watched indicator that seems to be a precursor to an official rate reduction. From the market’s perspective, all of this taken together suggests that the Fed is poised to cut rates next month.
But we aren’t so sure. For instance, the Fed also slightly raised their forecast for US GDP growth in 2020 from 1.9% to 2.0%. With the US economy continuing to remain relatively strong and resilient and US stock markets at or near all-time highs, a rate cut seems contradictory at a minimum from our perspective. Further, in recent days based upon a few tweets and a scheduled meeting, the market seems to have priced in a higher likelihood of a trade deal with China. What if there are further positive signals that come out of Japan next week and further active talks are agreed — which we think is the most positive outcome we could expect? Can the Fed really act before knowing if the deal actually gets done? In our view, The Fed would not want to cut rates and then quickly retreat, or worse yet, reverse a July rate cut when a deal happens in September.
At the July meeting, we think the Fed may remain a little more patient than the market expects. And, at that time, we may find out which is more important to the equity markets – further policy easing by the Fed or a trade deal with China. Either way, we believe there may be some investors that end up seriously off-sides.
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