Will They or Won’t They, Part Whatever

The upcoming Fed meeting is like the climax to a lousy romantic comedy.  By now, we know that the key players – in this case the FOMC and Mr. Market, rather than two attractive actors – will get together on Wednesday.  But we don’t yet know the dynamics of the relationship.  The FOMC is playing coy, and we still don’t know whether they will be willing to offer a chaste kiss (25bp) or something more enticing (50bp), and whether they are willing to offer the intense, passionate relationship that their suitor desires.

Early last week, the market seemed to think that a 25bp cut was far more likely until Thursday afternoon’s Wall Street Journal article from Nick Timiraos (a Fed whisperer extraordinaire).  That report returned the more aggressive 50bp cut to the forefront of the discussion.   Comments from former New York Fed President Dudley advocating for a half-point drop, along with a dearth of commentary pushing back on that notion has sharply increased the odds for a bigger cut.

According to the CME, the chance for a 50 bp cut was 14% on Wednesday.  It was 50/50 on Friday and is 61% as I type this.  The probabilities on the IBKR ForecastTrader have also changed dramatically.  There is now a 60% chance that the Fed Funds target rate will be set above 4.875% on Wednesday, down from 90% last week. 

Despite the evidence above, I’m still in the 25bp camp.  This was the basis for a report I published around midday Wednesday, and I still stick with its premise.  I still lean that way for four reasons:

1. The Payrolls, CPI and PPI reports all revealed price pressures.  Although Chair Powell reminded us that the Fed will be equally focused on the maximum employment portion of its dual mandate, stable prices still matter.
   • In the Payrolls report, monthly hourly earnings rose by 0.4%, ahead of last month's 0.2% and the 0.3% consensus
   • In the CPI report
     • Core rose 0.3% on a monthly basis, ahead of the 0.2% that was both the consensus and the prior readingReal Average Hourly Earnings rose 1.3%, more than the previous 0.7% (no consensus available)
     • Core PPI rose by 0.3% on a monthly basis, also ahead of the 0.2% consensus, though the prior 0.0% was revised down to 0.2%
2. The Fed doesn’t like to surprise markets.  By definition, if we’re about 50/50, then half the folks will be offsides.  Even if we’re 60/40 for a larger cut, we will still see many surprised investors. 
3. Though they’ll probably get accused of playing politics either way, they’ll get less pushback with 25bp rather than 50bp ahead of the election.
4. The tone of the FOMC Statement and the Summary of Economic Projections (aka, “the dot plot”) will matter considerably.  Markets are pricing in nearly 1.25% in cuts for the rest of 2024 (in other words, five 25 bp cuts in the three remaining meetings) and roughly 2.5% by the end of 2025.  We have to wonder whether the Fed will want to signal that they foresee the sort of economic weakness that would justify that level of rate activity.  (That plays into the political considerations as well)

We’ll find out the answers to the “will they, won’t they” on Wednesday, and whether we’ll need to stay tuned for the inevitable sequel.

By the way, there was a Bloomberg article this morning that noted that traders were pricing in a 1.2% move for the S&P 500 (SPX) on Wednesday.  The following table shows us that is actually a fairly typical post-Fed move:

Source: Interactive Brokers