It’s Fed day, with investors on edge as they anxiously await the first Federal Open Market Committee (FOMC) meeting of 2024.
While the decision itself is practically a done deal, with the Fed widely expected to maintain interest rates in the 5.25% to 5.50% range, all eyes are on the nuances of the policy statement and on what Chair Jerome Powell‘s subsequent remarks may reveal.
As the meeting approaches, traders are currently attributing a 47% probability of a rate cut happening in March. Market sentiment is pricing in nearly six rate cuts by year-end, suggesting a strong belief among speculators that inflation will recede, leading to aggressive rate reductions by the Fed.
However, the key question remains: Is this aligning with the central bank’s strategy, given the economy’s continued robust growth and a labor market that still remains tight?
Progress on Inflation Is Well Ahead of Schedule
“The FOMC will likely aim to keep a March cut on the table without sending a decisive signal by removing the outdated hiking bias from its statement and noting that future policy changes will depend on upcoming inflation and other data,” Goldman Sachs economist David Mericle wrote in a note to clients.
Mericle also suggests that Powell might address questions about a potential March rate cut by highlighting that there are still two rounds of inflation data and annual revisions to the CPI yet to be considered.
Goldman Sachs maintains a relatively dovish stance on the Fed’s actions, forecasting the first rate cut to occur in March and a total of five rate cuts for 2024. Their rationale is based on the belief that progress on inflation has already exceeded the threshold set by the FOMC.
Chart: Fed’s Favorite Inflation Gauge Remains At Nearly 3-Year Lows
A Shift to Neutral Stance
As per Bank of America’s analysis, there’s an expectation that the Federal Reserve will alter its stance by shedding the previously held bias in favor of a more neutral guidance in its statement.
Bank of America analysts Michael Gapen, Mark Cabana, and Alex Cohen foresee the possibility of the first rate cut occurring in March and advise clients to go long U.S. rates.
However, they anticipate that Powell will probably not hint at a March rate cut on Wednesday, and instead, they expect him to emphasize the Federal Reserve’s dedication to making decisions based on data.
A Dovish Fed Risks Igniting Asset Bubble
Veteran investor Ed Yardeni has recently voiced concerns regarding the Federal Reserve’s willingness to decrease interest rates in the current market landscape.
In addition to the geopolitical uncertainties in the Middle East, which might necessitate a more balanced monetary approach, Yardeni is apprehensive that an excessively dovish stance could contribute to an asset bubble.
Yardeni questions the feasibility of the five rate cuts currently anticipated by market participants. In his view, the economy does not currently require such extensive easing.
He recommends a more measured approach, suggesting that probably two or three rate cuts will be enough. In his assessment, interest rates have returned to a level that promotes more rational capital allocation.
A Dovish Fed Could Send The S&P 500 To Fresh Records
According to John Lynch, the chief investment officer for Comerica Wealth Management, adopting a dovish tone by the Federal Reserve could provide support for the ongoing market rally and potentially propel the S&P 500 to achieve new record highs.
Lynch points to historical data that suggests that once the equity market achieves new highs after a prolonged pause, it tends to maintain its momentum. However, he also notes that presidential election years often bring increased volatility, and the current geopolitical situation warrants some caution.
On Tuesday, the SPDR S&P 500 ETF Trust SPY closed at 490.89, just slightly below its record closing level of 491.27 on Monday. During premarket trading on Wednesday, the U.S. stock market gauge was down by 0.4%.
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