Markets are gearing up for a big day on the U.S. economic calendar.
Alongside its decision on where to set interest rates, the Federal Reserve on Wednesday will release its summary of economic projections — better known as its “dot plot” — indicating how many rate cuts officials are penciling in for 2024. The last such summary, released in March, pointed to three rate cuts this year.
“My sense is that it’ll come down to two,” said Rick Rieder, BlackRock’s chief investment officer of global fixed income and head of the firm’s global allocation investment team, in a phone interview. But “it’s a very close call,” he noted, with Fed officials “mixed in terms of their disposition” — meaning projections could point toward just one rate cut.
Markets would probably “react moderately positively” to projections for two rate cuts, yet “still with a skeptical eye as to whether they will really be able to get that done,” according to Rieder. Investors will probably view such a projection as “aspirational on the part of the Fed” and question whether “they have enough time to get the two cuts in” this year, he added.
“I think the first cut would come in September,” Rieder said, although “the conviction around it happening can’t be that high.”
Investors have been watching the U.S. economy and labor market for any cracks that could lead to a slowdown that lowers inflation, or for signs that economic growth may be hot enough to keep it at elevated levels. Inflation — which has eased substantially from its 2022 peak despite a resilient economy — remains above the Fed’s 2% target.
Investors will get fresh reading on U.S. inflation, as measured by the consumer-price index, on Wednesday morning ahead of the Fed’s rate decision later that same day.
The central bank has been holding its benchmark interest rate at an elevated level in a bid to bring down inflation sustainably toward its target, with investors anticipating the Fed will stand pat in June and July.
On Tuesday afternoon, traders in the federal-funds futures market appeared split on whether the Fed may first move to cut rates in September.
Fed-funds futures were indicating a 48.3% chance that the Fed will lower its benchmark rate in September by a quarter-percentage point from its current target range of 5.25% to 5.5%, according to the CME FedWatch Tool, at last check. That’s close to the 47.4% probability that traders saw for the Fed potentially keeping its policy rate that month at the current range.
“We expect the dots to show two cuts in 2024,” said David Mericle, chief U.S. economist at Goldman Sachs, in an emailed note Monday, referring to the Fed’s dot plot.
He’s expecting the projections to show “a slight tick up in the longer-run or neutral rate.” That’s after the longer-run rate edged up to 2.6% in the March projections .
Rieder also said he expects the Fed’s long-run rate could rise a bit in the forecasts that will be released on Wednesday.
Looking further out, Rieder said he anticipates that the longer-run rate may “ultimately head to above 3%.” He cited factors such as deglobalization and spending in areas like artificial intelligence and infrastructure as creating some stickiness in inflation that leads that rate higher.
The central bank will release a statement on its monetary policy at 2 p.m. Eastern time on Wednesday. Fed Chair Jerome Powell will host a press conference shortly after, at 2:30 p.m.
Dovish Fed?
“I don’t think [Powell] is going to be dovish in the press conference,” Rieder said, explaining he anticipates the chair will say the Fed can wait longer to cut rates. When the Fed eventually does move to lower them, Rieder expects it could indicate that the longer-run rate may rise over the next couple years. That sort of messaging could mute some of the financial easing in the market, he said.
The U.S. stock market has risen to a series of record highs this year. The S&P 500 index SPX closed at an all-time peak on Tuesday, finishing the trading session with a year-to-date gain of 12.7%.
But “the bifurcation and dispersion within the market is very much tied to the yield backdrop,” according to Liz Ann Sonders, chief investment strategist at Charles Schwab. Large companies that have termed out their debt and are earning more interest on their cash are faring better than smaller companies, she said in a phone interview.
The Russell 2000 index RUT, a gauge of small-cap stocks in the U.S., is down 0.1% this year through Tuesday, FactSet data show.
With the Fed being data dependent, markets risk knee-jerk reactions in bond rates due to inflation readings or guidance from the central bank on the path of its monetary policy, according to Sonders. Big moves in Treasury yields risk spurring stocks up or down, she added.
For example, Treasury yields falling on a cooler inflation reading could help move the stock market higher, as investors may read that as supporting the case for Fed rate cuts this year, Sonders said.
The yield on the 10-year Treasury note BX:TMUBMUSD10Y fell Tuesday to 4.403%. The 10-year rate had jumped after the hotter-than-anticipated U.S. jobs report released June 7 , finishing that day at 4.428%, according to Dow Jones Market Data.
The S&P 500 rose Tuesday as investors await the Fed’s rate decision, its summary of economic projections and the highly anticipated reading on May inflation from the consumer-price index.
Read: How th e stock market performs when a CPI report and a Fed decision happen the same day
Meanwhile, “I think the Fed right now is biased to not do anything,” said Sonders.
For the Fed to cut rates, she expects that “it would take more acute weakness in the labor market,” which Sonders noted “we didn’t get” in the most recent jobs report. “You did get the tick up in the unemployment rate to 4%,” Sonders observed, but most of the jobs report released by the Bureau of Labor Statistics was “not supportive of easier policy.”
Yardeni Research said in a note that it expects Wednesday’s CPI report will confirm inflation is continuing to fall toward the Fed’s 2% target, with the central bank on course to achieve its dual mandate of stable prices and maximum employment “without causing a recession.”
Rate cuts at this point would increase the risk of a “melt-up” in the stock market, said Yardeni.
Rieder is anticipating that “the overriding theme from the Fed will be, ‘We can stay here for a bit longer,’” as it keeps watching the economic data. The central bank will probably acknowledge some slowdown in the economy, according to Rieder, who pointed to pressure on lower-income consumers, small businesses and areas of the market such as commercial real estate.
Although patient, “I think the Fed would like to get one or two cuts in” this year, he said.