Weekly market & economic update
Fed loses "patience" due to weaker economic trends - but no rate cuts at this time
As expected, the Fed kept the target policy rate range unchanged following its two-day meeting. However, the message did shift from one highlighting patience to what we interpret as an openness to interest rate cuts. The statement noted that uncertainties about the outlook have increased and that the Committee will act as appropriate to sustain economic expansion. Fed Chairman Jerome Powell emphasized that many on the Committee see a strengthened case for lower rates. Market expectations shifted to 100 percent odds of a rate cut at the next Fed meeting in late July.
The Fed’s Summary of Economic Projections included lower inflation expectations, in line with our view of a softening economy, with few price pressures. The members’ individual expectation for where the policy rate will be in coming years (the dot plot) migrated lower. Roughly half of the members polled believe rates will be lower at year-end than today, with several members expecting it to be 0.50 percent lower by year-end. However, the median estimate indicates no rate cuts this year. One member (James Bullard) voted in favor of a 0.25 percent cut today, which was the first time a member dissented from the consensus view since Chairman Powell took over.
The bond market is currently pricing in between two to three rate cuts by year-end 2019, with the odds of a cut in July rising from 80 percent yesterday to 100 percent today. Bond yields fell (prices rose) based on the news while riskier assets, such as domestic and international stocks, high yield bonds and real estate investment trusts (REITs), rose modestly. Investor sentiment remains strong, likely indicating that investors are maintaining high expectations for rate cuts. This creates a potentially volatile market environment if the Fed does not deliver interest rate cuts in line with market expectations.
In our view, Chairman Powell’s press conference remarks today provided important insight into the Committee’s thoughts and processes, and he did seem to indicate an openness to cutting rates. Powell stated economic crosscurrents have re-emerged, specifically that global growth indicators have disappointed and uncertainty around trade has risen. We hold a similar view of slowing global growth indicators through our proprietary global “Health Check” and have communicated extensively about the “edgeless” nature trade and monetary policy that have been impacting capital markets. The Fed statement characterized economic activity as rising at a “moderate” rate, adding that business investment indicators have been soft and inflation is slowing.
We remain focused on the trend of economic data in the United States and globally. Our analysis indicates the global economy is on a path of a re-synchronized slowdown. Odds of a recession, while rising, remain modest globally and subdued for the United States. We are maintaining our balanced assessment of risks between stocks and bonds, which is guiding our recommendation to hold stock and bond allocations close to long-term strategic target allocations. This reflects higher levels of volatility across global equity markets and lower bond yields in the United States relative to year-ago levels. Within bond portfolios, we favor below-benchmark maturity profiles due to the limited incremental return for extending maturities. As appropriate, we advise that bond portfolios be primarily comprised of high quality bonds to provide adequate portfolio diversification against riskier portfolio allocations.
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