Fountainheadinvesting

Categories
Market Outlook

A Hawkish Cut

12/17/2024

A Hawkish Cut

As expected the Fed cut interest rates by 0.25% bringing the Fed Funds rate to 4.25% to 4.5% To be sure, this is a hawkish cut. The S&P 500 gave up its gains of 0.5% and has dropped 1.5% in a reversal as has the Nasdaq Composite, down a full 2% to 19,703.

The 10-year treasury yield has shot to 4.5%, a harbinger of how the markets believe that the Feds will have to pay more to finance the deficit, with analysts even talking of 5% – a rate seen last October.

The hawkishness stems from the FOMC Median 2025 PCE Inflation Forecast, which rises to 2.5% vs 2.1%

The median forecast of Fed policymakers for the benchmark rate for the end of next year is now 3.9%. That compares with 3.4% back in September. That suggests 50 basis points of easing compared with 100 basis points in September (including the impact of today’s rate cut).

Today’s cut means policymakers have now lowered their benchmark lending rate by a full percentage point since mid-September. The median estimate of Fed officials now sees just two cuts next year. Most folks were expecting three in the forecast.

Fed officials are tipping an unemployment rate of 4.3% next year a shade higher than the current 4.2%. Chair Powell in the conference that followed stressed that he wanted to ensure that labor markets didn’t get derailed when asked about the need to cut.

The Fed’s policy statement also alluded to a slower pace of cuts by saying “the extent and timing” of additional adjustments would depend on the outlook. This too was stressed in the conference that it would always be new data that would matter.

The neutral rate discussed (the rate at which the economy is neither inflationary nor disinflationary) is now 3%, higher than the original 2%, which the Feds were hoping to achieve by 2024, now highly unlikely before 2027.

Given the strength in the economy, with the GDP at 2.8% and projected to grow above 2% next year, a strong labor market with an unemployment rate of only 4.2%, this is not a bad call and regardless of how the market reacted, the caution to cut slower in 2025 is warranted in my opinion.

Categories
Market Outlook

Rate cut could be on the table at the September meeting, Fed Chair Powell says 

  • A rate cut could be on the table as soon as September, if inflation continues to progress toward the Federal Reserve’s 2% goal, Federal Reserve Chair Jerome Powell said at his post-monetary policy decision press conference. 
  • In the labor market, supply and demand have come into better balance and have returned to about where they were before the pandemic — “strong, but not overheated,” he said. 
  • The second quarter’s data has strengthened confidence that inflation is heading sustainably toward the Fed’s 2% goal, he added. It’s waiting for additional data to further strengthen that confidence before the FOMC reduces the federal funds rate target range. 
  • “We have made no decisions about future meetings, and that includes the September meeting,” he said.
Categories
Market Outlook

Savita Subramanian on the state of the markets

A Summary of Barron ’s interview with Savita Subramanian – head of U.S. equity and quantitative strategies at BofA Securities

Definitely one of the smarter strategists on Wall Street with a lot of prescient calls, especially being one of the first to raise the S&P 500 2024 target to 5,400, a level we passed yesterday.

https://www.barrons.com/articles/large-companies-value-stocks-market-rally-subramanian-21f7c4c2?mod=hp_LEADSUPP_1

“If I were going to buy one kind of investment for the next 12 to 24 months, it would be large-cap value. That’s where you’re going to get the most bang for your buck. That’s what will lead over the next few years, given the macro environment.” 

“At the beginning of the year, it was much easier to be bullish because there were a lot more bears. And at this point, I feel like a lot of the bears have capitulated.”

“I’m not worried about equities from a valuation perspective because these multiples are sustainable.”  “Inflation volatility has subsided. This is where clients probably disagree with me the most, but I feel that what the Fed does now is less important because it has already done the extreme process of hiking.”

I agree with this to a great extent – interest rate cuts, higher for longer, neutral interest rates have a marginal impact. Directionally, the 10 year is moving lower, and except for shelter inflation, which has a variable called “notional rent” (A computed number based on what you would pay if you were renting your home today), a majority of other indicators have been moving lower.

​​” Until we get to that moment where the Fed says we’re at peak rates, inflation is coming down, and we can be more accommodative, you want to hold inflation-protected sectors such as energy, materials, and financials. These are more cyclical than defensive sectors.”

“When we were in more of an inflationary environment, we wrote about how the best environment for equities was 2% to 4% inflation. That’s where we are right now. The best environment for equities is when real wage growth is positive and nominal sales growth is at reasonable levels.”

A somewhat Goldilocks scenario…

“But I am surprised by how narrow the market has become. I would have expected a broadening out to have happened earlier.” “The earnings of the mega cap tech cohort are so high that we are more likely to see a deceleration than an acceleration. Another reason to expect a broadening out is that we got positive guidance across the board, and not just from tech companies, during first-quarter earnings season.”

“I like a mix of companies that are generating strong free cash flow and enjoying the benefits of this tech revolution, but also companies that are potentially becoming more labor light. If you think about the areas that could benefit from generative artificial intelligence, it’s banks, legal services, and IT [information technology] services.”

“And if you think about cash flow, it isn’t just tech but also utilities, power, infrastructure, and energy companies that are generating substantial amounts of cash. Some are exciting, and some are boring. But they are mostly big. That’s where I differ from a lot of other bulls. I don’t think you want to buy all small-caps, because while some of them are economically sensitive and will benefit from better gross-domestic-product growth in the U.S., others are morphing into smaller-cap companies because they used to be large.”

So be selective, the devil is in the details – cash flow, operational performance are paramount regardless of small, big, value, boring, tech – BUY THE BUSINESS, Buffet style..

When asked about the election – “The fact that both candidates agree that they want to bring back manufacturing from China and other regions of the world to the U.S. has created more jobs. While these policies are protectionist and inflationary, they are also pro-growth.”

“Right now is the most interesting time to be a market strategist, in my opinion. We’re back to a more rational market. When we were in a zero-interest-rate, massive-stimulus-driven market, it was hard to forecast what would happen next. Events were in the hands of central bankers.” “The outlook depends less on central bankers, and more on corporations and consumers.”

Its a very practical approach, and its folks like Savita, who are instrumental in allocating investment capital – this is not a theoretical, economists top down approach, which at the end of day is much less influential/meaningful for investors.

Categories
Market Outlook

 Fed Officials Dial Back Rate Forecasts, Signal Just One ’24 Cut

Officials acknowledge ‘modest further progress’ on prices

Fed boosts estimate of long-run neutral rate further

Federal Reserve officials penciled in just one interest-rate cut this year and forecast more cuts for 2025, reinforcing policymakers’ calls to keep borrowing costs high for longer to suppress inflation.

They now see four cuts in 2025, more than the three previously outlined.

The Federal Open Market Committee adjusted language in its post-meeting statement released Wednesday, noting there has been “modest further progress toward the committee’s 2% inflation objective” in recent months. Previously, the statement pointed to a “lack” of further progress.

The S&P is still up 0.96% and the 10 year is at 4.29% – no major reaction.

Categories
Market Outlook

 Payrolls Report For May 2024

US Payrolls Rose by 272,000 in May, smashing Estimates of 180,000

The wage gain is also strong, at 0.4%, double the pace of the average hourly earnings advance of the previous month.

The unemployment rate is up, though, that’s as the labor force participation rate fell — unfortunate news for the Fed.

  • May nonfarm payrolls: +272K vs. 182K expected and 165K prior (revised from +175K).
  • Unemployment rate: 4.0% vs. 3.9% expected and 3.9% prior.
  • Average hourly earnings rose 0.4% in May, accelerating from 0.2% in April and topping the 0.3% consensus. Y/Y, average hourly earnings increased 4.1%, compared with the +3.9% consensus and +4.0% in the prior month (revised from +3.9%).
  • Futures are down 0.4% and the 10 Year treasury yield has increased 13 points to 4.43%
Categories
Market Outlook

Jobs Report: June 2024

A good jobs report.

206,000 net new jobs V 190,000 expected.

4.1% unemployment rate, a bit higher than expected, the Feds expected this rate by Dec 2024.

Revisions are the bigger story with 57,000 and 54,000 lower revisions for April and May 2024. So, the 206,000 jobs for June may be revised as well following the trend.

Wage rate – Average hourly earnings climbed by 0.3% in June from the previous month, taking the annual increase to 3.9%.

Futures are flat, and the 10-year has dropped to 4.29%.

Categories
Market Outlook

Chair Powell’s Remarks: Navigating the Fine Line Between Employment and Inflation Amidst FOMC Decisions

From Chair Powell “I don’t see the stag nor the flation”

Fed FOMC meeting: Mixed bag, with wild gyrations in the S&P 500, which at one point during J Powell’s Q&A jumped to an intraday high of 5,096 from the low of 5,013.

The tenor though didn’t seem overly hawkish, instead, it seemed more cautious – clearly, they have a lot of work to do ahead and can’t take any chances either – a very fine tightrope to walk, Powell wants to stick to his dual mandate of keeping employment strong and inflation under control. He kept talking about balances – a difficult task, indeed,

The big positive seemed to be the reduction in quantitative tightening to $25Bn from $60Bn. The markets were expecting $30Bn

The Federal Open Market Committee did decide to ease its quantitative tightening by slowing the pace of its balance sheet runoff. The FOMC will reduce the monthly redemption cap on Treasury securities from $60B billion to $25B.

Let’s wait for the Friday payroll report.

Categories
Market Outlook

The 2% Fed Neutral Rate target Is a myth

The 2% Fed target is a myth and highly unlikely to be achieved. Historical CPI has been closer to 3%, and given the move away from globalization, and China decoupling in the past 3-4 years, that era of persistent disinflation is likely to be over. You saw Japan’s move.

That said – At least, I believe that beyond a certain point Fed induced higher interest rates will not name inflation, a lot of US inflation is fiscal, not monetary, the Feds know that and will cut for sure as insurance – nobody wants to derail the economy. I still think the three cuts of 25% each in 2024 are achievable. But to your point, yes, I don’t think we’ll go below a 3.5% treasury for a long, long time. I agree with energy stocks doing better in 2024, they will take up more space in the index. 

Categories
Market Outlook

Fed’s Preferred Inflation Gauge Eases in February, Matching Expectations

Fed’s preferred inflation gauge subsides, in line with consensus, in February

Core PCE Price Index, which excludes food and energy, rose 0.3% M/M in February vs. +0.3% consensus and 0.5% prior (revised from +0.4%).

On a year-over-year basis, core PCE increased 2.8% Y/Y, compared with the +2.8% consensus and +2.9% prior (revised from 2.8%).

Including food and energy prices, the PCE Price Index grew 0.3% M/M, less than the +0.4% expected and slowing from +0.4% in January (revised from +0.3%).

Prices for goods rose by 0.5%, bolstered by energy prices, and prices for services rose 0.3%. Food prices edged up 0.1%, while energy prices jumped 2.3% during the month.

2.5% Y/Y vs. +2.5% expected and +2.4% prior.

Personal income increased less than expected, up 0.3% M/M vs. +0.4% expected and +1.0% prior, the U.S. Commerce Department said on Friday.

Personal outlays climbed 0.8% M/M, exceeding the +0.5% expected and accelerating from +0.2% in January.

Real disposable income, which is adjusted for inflation, declined 0.1% M/M in February, while real personal consumption expenditures increased 0.4%.