Gold, stocks wobbled after "apolitical" Fed's panic rate cuts

·         Fed credibility may be at stake as the Fed miscommunicated with the market despite Powell's narrative about ‘blackout period data’ and decision

·         Fed’s unexpected 100 bps rate cuts in 3 months against earlier dot-plots of 50 bps may be politically motivated rather than US economic data (even after taking it at face value)

·         The market may be concerned about any potential recession after the Fed’s crisis-era rate cuts of 50 bps

·         On 31st July Fed presser and subsequent talks, Powell trashed the idea of 50 bps rate cuts in September and December; the same applies to most of the Fed policymakers

On Wednesday (18th Sep’24) all focus of the market was on the Fed’s policy decision, where the Fed was expected to cut rates gradually by normal -25 bps and indicate another -25 bps rate cut in Dec’24. In line with Jun’24 dot-plots/SEP, the market was also expecting another -100 bps rate cut each in 2025-26 (at every QTR end @25 bps) and one additional -25 bps rate cut in Mar’27 for a cumulative -275 bps rate cut (@25 bps * 11 times) to bring down repo rate from present +5.50% to +2.75% against longer run terminal/neutral rate against durable core inflation target of +2.0% and sustainable unemployment levels around 4.2% (as per June’24 SEP).

Although the FFR (SWAP) was indicating only around 50% of -50 bps rate cuts in Sep/Dec’24 and almost 100% for -25 bps rate cuts, the Fed goes for the -50 bps rate cut in Sep’24 with an indication (dot-plots) of another -50 bps rate cut in Dec’24. And Fed continues to cut -100 bps in 2025 (@-25 bps each QTR end) in line with June’24 dot-plots and finally -50 bps rate cuts in 2026 (Mar’26+June’26) for a terminal repo rate +3.00% by Dec’26.

As per Sep’24 Fed SEP/dot-plots, there will be no further rate cuts in 2027 and the terminal/neutral rate would be +3.00% against earlier June’24 dot-plots of +2.75%. Thus the core real repo rate by Dec’26 and Dec’27 is projected at around +1.00% (repo rate 3.00% -2.00 core inflation) in Sep’24 dot-plots against +0.75% in earlier June’24 dot-plots/SEP. This Fed stance is slightly less dovish than it seems at first glance even though Fed/Chair Powell always tries to junk any SEP/dot-plots above 12 months.

US-FED-REPO RATE (PRIMARY CREDIT RATE)

On Wednesday, the US Fed unexpectedly cut the target range for the fed funds rate (FFR-Interbank rate) by a jumbo -50 bps to 4.75%-5.0% (~5.9%), the first reduction in borrowing costs in 4 years after COVID (Mar’20) against general market expectations of a regular -25 bps cut, although some influential market participants/policymakers close to Democrats were talking about -50 bps cuts to avoid a potential ‘recession’. All FOMC participants except Bowman voted for the decision, Bowman voted for -25 bps rate cuts.

The Fed also released new economic forecasts (SEP-Summary of Economic Projections), in which Fed policymakers are penciling in =100 bps of rate cuts by Dec’24; suggesting one more -50 bps cuts in Dec’24. For 2025, an additional -100 bps of cuts are expected, followed by a final -50 bps reduction in 2026. Also, PCE inflation was revised lower for 2024 to 2.3% (vs 2.6% in the June projection) and 2025 to 2.1% (vs 2.3%). The core PCE inflation is also seen lower at 2.6% for 2024 (vs 2.8%) and 2.2% for 2025 (vs 2.3%). The real GDP growth is seen slightly down at 2.0% (vs 2.1%) but the forecast for 2025-26 was kept at 2.0%. Meanwhile, the unemployment rate is seen higher this year (4.4% vs 4.0%) and next year (4.4% vs 4.2%)

Full text of Fed’s statement: 18th Sep’24- Federal Reserve issues FOMC statement

“Recent indicators suggest that economic activity has continued to expand at a solid pace. Job gains have slowed, and the unemployment rate has moved up but remains low. Inflation has made further progress toward the Committee's 2 percent objective but remains somewhat elevated.

The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. The Committee has gained greater confidence that inflation is moving sustainably toward 2 percent, and judges that the risks to achieving its employment and inflation goals are roughly in balance. The economic outlook is uncertain, and the Committee is attentive to the risks to both sides of its dual mandate.

In light of the progress on inflation and the balance of risks, the Committee decided to lower the target range for the federal funds rate by 1/2 percentage point to 4-3/4 to 5 percent. In considering additional adjustments to the target range for the federal funds rate, the Committee will carefully assess incoming data, the evolving outlook, and the balance of risks. The Committee will continue reducing its holdings of Treasury securities agency debt and agency mortgage‑backed securities. The Committee is strongly committed to supporting maximum employment and returning inflation to its 2 percent objective.

In assessing the appropriate stance of monetary policy, the Committee will continue to monitor the implications of incoming information for the economic outlook. The Committee would be prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee's goals. The Committee's assessments will take into account a wide range of information, including readings on labor market conditions, inflation pressures and inflation expectations, and financial and international developments.

Voting for the monetary policy action were Jerome H. Powell, Chair; John C. Williams, Vice Chair; Thomas I. Barkin; Michael S. Barr; Raphael W. Bostic; Lisa D. Cook; Mary C. Daly; Beth M. Hammack; Philip N. Jefferson; Adriana D. Kugler; and Christopher J. Waller. Voting against this action was Michelle W. Bowman, who preferred to lower the target range for the federal funds rate by 1/4 percentage point at this meeting.”

Implementation Note issued September 18, 2024: Decisions Regarding Monetary Policy Implementation

“The Federal Reserve has made the following decisions to implement the monetary policy stance announced by the Federal Open Market Committee in its statement on September 18, 2024:

·         The Board of Governors of the Federal Reserve System voted unanimously to lower the interest rate paid on reserve balances to 4.9 percent, effective September 19, 2024

As part of its policy decision, the Federal Open Market Committee voted to direct the Open Market Desk at the Federal Reserve Bank of New York, until instructed otherwise, to execute transactions in the System Open Market Account in accordance with the following domestic policy directive:

Effective September 19, 2024, the Federal Open Market Committee directs the Desk to:

·         Undertake open market operations as necessary to maintain the federal funds rate in a target range of 4‑3/4 to 5 percent

·         Conduct standing overnight repurchase agreement operations with a minimum bid rate of 5 percent and with an aggregate operation limit of $500 billion

·         Conduct standing overnight reverse repurchase agreement operations at an offering rate of 4.8 percent and with a per-counterparty limit of $160 billion per day

·         Roll over at auction the amount of principal payments from the Federal Reserve's holdings of Treasury securities maturing in each calendar month that exceeds a cap of $25 billion per month. Redeem Treasury coupon securities up to this monthly cap and Treasury bills to the extent that coupon principal payments are less than the monthly cap

·         Reinvest the amount of principal payments from the Federal Reserve's holdings of agency debt and agency mortgage‑backed securities (MBS) received in each calendar month that exceeds a cap of $35 billion per month into Treasury securities to roughly match the maturity composition of Treasury securities outstanding

·         Allow modest deviations from stated amounts for reinvestments, if needed for operational reasons

·         Engage in dollar roll and coupon swap transactions as necessary to facilitate settlement of the Federal Reserve's agency MBS transactions.

In a related action, the Board of Governors of the Federal Reserve System voted unanimously to approve a 1/2 percentage point decrease in the primary credit rate to 5 percent, effective September 19, 2024. In taking this action, the Board approved requests to establish that rate submitted by the Board of Directors of the Federal Reserve Bank of Atlanta.

This information will be updated as appropriate to reflect decisions of the Federal Open Market Committee or the Board of Governors regarding details of the Federal Reserve's operational tools and approach used to implement monetary policy.”

Full text of Fed Chair Powell’s opening statement: 18th Sep’24

“My colleagues and I remain squarely focused on achieving our dual mandate goals of maximum employment and stable prices for the benefit of the American people. Our economy is strong overall and has made significant progress toward our goals over the past two years. The labor market has cooled from its formerly overheated state. Inflation has eased substantially from a peak of 7 percent to an estimated 2.2 percent as of August. We are committed to maintaining our economy’s strength by supporting maximum employment and returning inflation to our 2 percent goal.

Today, the Federal Open Market Committee decided to reduce the degree of policy restraint by lowering our policy interest rate by 1/2 percentage point. This decision reflects our growing confidence that, with an appropriate recalibration of our policy stance, strength in the labor market can be maintained in a context of moderate growth and inflation moving sustainably down to 2 percent. We also decided to continue to reduce our securities holdings.

I will have more to say about monetary policy after briefly reviewing economic developments.

Recent indicators suggest that economic activity has continued to expand at a solid pace. GDP rose at an annual rate of 2.2 percent in the first half of the year, and available data point to a roughly similar pace of growth this quarter. Growth of consumer spending has remained resilient, and investment in equipment and intangibles has picked up from its anemic pace last year. In the housing sector, investment fell back in the second quarter after rising strongly in the first. Improving supply conditions have supported resilient demand and the strong performance of the U.S. economy over the past year.

In our Summary of Economic Projections, Committee participants generally expect GDP growth to remain solid, with a median projection of 2 percent over the next few years. In the labor market, conditions have continued to cool. Payroll job gains averaged 116 thousand per month over the past three months, a notable step down from the pace seen earlier in the year. The unemployment rate has moved up but remains low at 4.2 percent. Nominal wage growth has eased over the past year and the jobs-to-workers gap has narrowed. Overall, a broad set of indicators suggests that conditions in the labor market are now less tight than just before the pandemic in 2019.

The labor market is not a source of elevated inflationary pressures. The median projection for the unemployment rate in the SEP is 4.4 percent at the end of this year, 4 tenths higher than projected in June. Inflation has eased notably over the past two years but remains above our longer-run goal of 2 percent. Estimates based on the Consumer Price Index and other data indicate that total PCE prices rose 2.2 percent over the 12 months ending in August; and that, excluding the volatile food and energy categories, core PCE prices rose 2.7 percent.

 Longer-term inflation expectations appear to remain well anchored, as reflected in a broad range of surveys of households, businesses, and forecasters, as well as measures from financial markets. The median projection in the SEP for total PCE inflation is 2.3 percent this year and 2.1 percent next year, somewhat lower than projected in June. Thereafter, the median projection is 2 percent.

Our monetary policy actions are guided by our dual mandate to promote maximum employment and stable prices for the American people. For much of the past three years, inflation ran well above our 2 percent goal, and labor market conditions were extremely tight. Our primary focus had been on bringing down inflation, and appropriately so. We are acutely aware that high inflation imposes significant hardship as it erodes purchasing power, especially for those least able to meet the higher costs of essentials like food, housing, and transportation.

Our restrictive monetary policy has helped restore the balance between aggregate supply and demand, easing inflationary pressures and ensuring that inflation expectations remain well anchored. Our patient approach over the past year has paid dividends: Inflation is now much closer to our objective, and we have gained greater confidence that inflation is moving sustainably toward 2 percent.

As inflation has declined and the labor market has cooled, the upside risks to inflation have diminished and the downside risks to employment have increased. We now see the risks to achieving our employment and inflation goals as roughly in balance, and we are attentive to the risks to both sides of our dual mandate.

In light of the progress on inflation and the balance of risks, at today’s meeting the Committee decided to lower the target range for the federal funds rate by 1/2 percentage point, to 4-3/4 percent to 5 percent. This recalibration of our policy stance will help maintain the strength of the economy and the labor market and will continue to enable further progress on inflation as we begin the process of moving toward a more neutral stance. We are not on any preset course. We will continue to make our decisions meeting by meeting.

We know that reducing policy restraint too quickly could hinder progress on inflation. At the same time, reducing restraint too slowly could unduly weaken economic activity and employment. In considering additional adjustments to the target range for the federal funds rate, the Committee will carefully assess incoming data, the evolving outlook, and the balance of risks.

In our SEP, FOMC participants wrote down their assessments of an appropriate path for the federal funds rate, based on what each participant judged to be the most likely scenario going forward. If the economy evolves as expected; the median participant projects that the appropriate level of the federal funds rate will be 4.4 percent at the end of this year and 3.4 percent at the end of 2025. These median projections are lower than in June, consistent with the projections for lower inflation and higher unemployment, as well as the changed balance of risks. These projections, however, are not a Committee plan or decision.

As the economy evolves, monetary policy will adjust in order to best promote our maximum employment and price stability goals. If the economy remains solid and inflation persists, we can dial back policy restraint more slowly. If the labor market was to weaken unexpectedly or inflation was to fall more quickly than anticipated, we are prepared to respond. Policy is well-positioned to deal with the risks and uncertainties that we face in pursuing both sides of our dual mandate.

The Fed has been assigned two goals for monetary policy—maximum employment and stable prices. We remain committed to supporting maximum employment, bringing inflation back down to our 2 percent goal, and keeping longer-term inflation expectations well anchored. Our success in delivering on these goals matters to all Americans. We understand that our actions affect communities, families, and businesses across the country. Everything we do is in service to our public mission. We at the Fed will do everything we can to achieve our maximum employment and price stability goals. Thank you. I look forward to your questions.”

Highlights of Fed and Chair Powell’s statements/comments in the Q&A: 18th Sep’24

·         US Interest Rate Decision Actual 5.00% (Forecast 5.25%, Previous 5.5%)

·         Bowman dissents in an 11-1 vote

·         Fed Policymakers see 2% GDP growth in 2024 versus 2.1% in June

·         Fed Policymakers see 4.4% unemployment rate at the end of 2024 and 2025 versus 4.2% now

·         Fed Policymakers see end-2024 PCE inflation at 2.3% versus 2.6% in the June projections; core seen at 2.6% versus 2.8%

·         Median view of the Fed funds rate at end-2027 2.9%

·         The FOMC has gained greater confidence in inflation moving sustainably toward 2%, judges risks to employment, and inflation goals are roughly in balance

·         Median view of Fed Funds rate at end-2026 2.9% (prior +3.1%)

·         Fed Officials' median view of Fed Funds rate at end-2025 3.4% (prior 4.1%)

·         Fed Officials' Median view of Fed Funds rate at end-2024 4.4% (prior 5.1%)

·         FOMC Median Rate Forecast Current year: 4.625% (5.125% in June)

·         FOMC Median Rate Forecast 2025: 3.625% (4.125% in June)

·         FOMC Median Rate Forecast +2-Years: 2.875% (2.75% in June)

·         Fed's Powell:

·         Our projections show we expect GDP growth to remain solid

·         The Fed can maintain labor strength with policy adjustment

·         Consumer spending has remained resilient

·         Our decision today reflects growing confidence that strength in the labor market can be maintained

·         Inflation has eased notably but remains above our goal

·         The labor market now no longer a source of elevated inflationary pressures

·         The labor market has continued to cool which has been a notable step down from earlier this year

·         Longer-term inflation expectations appear well-anchored

·         If the labor market deteriorates we can respond

·         If the economy remains solid and inflation persists, we can dial back policy more slowly

·         We will adjust the policy as necessary

·         Our projections are not a plan or decision

·         Upside risks to inflation have diminished and downside risks to the labor market have risen

·         Our patient approach has paid dividends and inflation is much closer to our goal

·         We can go quicker or slower, or pause, on rate cuts if it is appropriate; the Fed will be flexible and nimble

·         Fed projections are baseline projections; actual things we do depend on how the economy evolves

·         There is nothing in our projections that suggests we are in a rush

·         Fed's Powell when asked about the closeness of the decision: There was a good discussion

·         There was broad support for a 50 bps cut today

·         We left open the size of the rate cut going into blackout; August CPI, PPI, GDP, NFP, and retail sales report influenced our decision and we couldn’t communicate with the market properly’ We concluded that a 50 bps point cut was the right thing.

·         We have made a good strong start today on cuts

·         But no one should look at today and think this is the new pace/norm

·         We are not thinking about stopping runoff (QT) because of this at all

·         Labor market conditions have cooled, but the level of conditions is pretty close to max employment

·         Retail sales and Q2 GDP indicate an economy growing at a solid pace, which will also support the labor market

·         We don't need to see further loosening of the labor market to get inflation down to 2%

·         My sense is we are not going back to negative rates for long-term bonds; it feels neutral rate is higher than it was

·         We are not declaring victory on inflation

·         We understand it will take some time for lower market rents to filter through.

·         Housing inflation is one piece that is dragging a bit

·         We might well have cut in July/June if we had the jobs data at that point

·         We don't think we're behind the curve

·         Fed is apolitical and today’s 50 bps cut is not influenced by the White House.

Conclusions:

On Wednesday, during the Q&A session, despite trying to be brave & smart, Powell’s body language indicated Fed is not apolitical and the decision to go for a crisis-era like a 50 bps cut in September and most probably in December too may be influenced more by White House rather than underlying economic data & outlook.

Apolitical Fed's credibility may be now at stake as after jawboning gradual (normal) 25 bps cuts for months, the Fed goes suddenly for -50 bps cuts just ahead of the Nov’24 election based on just one CPI/retail sales report in the blackout period which also indicated stalled disinflation and resilient consumer spending. The market may now worry about any real potential recession, which the Fed knows but the market does not know (as the Fed goes for sudden panic rate cuts).

Also, historically Fed rate cuts most of the time coincide with some types of recession/financial crisis. Also, the world’s most important central bank Fed is now doing QT and jumbo rate cuts at the same time, which are contradictory despite the tapered pace of QT and the Fed narrative that the Fed is reducing (dialing back) overall restrictive rate in line with falling inflation. Even if we take the US economic data at face value despite abnormal revisions even after several months, the Fed has miscommunicated with the market and also created confusion, and asset bubble by jawboning too much. Normally, the Fed never surprises the market as it has immense jawboning power and pipeline. But this time, despite a very low FFR Swap probability of 50 bps cut, the Fed goes for the same.

Looking ahead, as per Sep’24 dot-plot projections, the Fed may cut -50 bps in Dec’24 (Q4CY24 end) and then may shift to -25 bps normal pace of rate cuts each QTR end in 2025 for a cumulative cut -100 bps (for 2025). And further, Fed may cut -50 bps in 2026 for an indicative terminal/neutral rate of +3.00% Compared to the Jun’24 sot-plots, Fed has front-loaded 50 bps rate cuts from 2026 into 2024 and also fully dialed back 25 bps projected rate cut in 2027 fully and projected higher longer-term neutral terminal rate at +3.00% against earlier +2.75%.

Further assuming +2.0% average core inflation (PCE+CPI); the Fed may now want to maintain a minimum real positive rate at +1.00% against pre-COVID times +0.50% and June’24 projections of +0.75%. On the high side, the Fed may also maintain a 2.50/2.00% real positive rate (as restrictive). But at the same time, the Fed will be flexible and nimble as always in line with actual economic data and outlook thereof, and thus may change the goalpost again.

Although Fed may not cut again on 7th November, just days before the US election, and should wait for the next QTR end (Dec’24), considering underlying political pressure, Fed may also change its rhetorics to say that as ut5 has done a ‘policy mistake’ by not cutting in March and June QTR (after negative revisions in NFP/job data), it’s now correcting the path by going for another 25 bps cut in Nov’24 followed by another in Dec’24. Thus Fed may also cut 25 bps in Nov’24 and then another 25 bps in Dec’24 to be ahead of the ‘recession’ curve and continue the normal 25 bps rate cuts every QTR end in 2025 too.

Another point is that by Dec’24, the repo rate of the Fed would be +4.50% against ECB’s +4.25% as the ECB may not cut in Oct’24, but cut 25 bps in Dec’24. In that process, the policy rate differential (spread) between the Fed and ECB would be +25 bps, in line with pre-GFC (2007), when the Fed repo rate was +0.50% against ECB’s +0.25%. All major G10/G20 central banks have to make proper adjustments in rates to maintain the ideal real policy rate differential for an equilibrium (EXPORT/IMPORT/IMPORTED INFLATION) in this era of synchronized global rate cuts/lessening or global rate hikes/tightening. But BOJ may have to hike rates for normalization and avoid another decade of deflation.

Market Impact:

On Wednesday, Wall Street Futures, Gold surged initially as a jerk reaction to an unexpected jumbo rate cut by the Fed (-50 bps) against the general market expectations of -25 bps; but soon stumbled as such jumbo rate cut may be ‘political’ and also indicating ‘panic’ by Fed. As the overall economic data does not indicate any early signs of recession/hard landing, but despite that Fed is going for unusual crisis-era rate cuts of 100 bps in three months, the market may be nervous about any real possibility of next financial crisis, which Fed may be aware, but the market is not.

Also, the Fed rate cuts of -100 bos by Dec’24 were partially discounted by the market already going by the recent rally, and thus this may be another example of buying the rumor and selling the news/fact. And Fed rate cuts; i.e. lower bond yield may be negative for the banks as their NIM/NII may be affected. Thus overall, Friday is a classic example of long unwinding and fresh shorts at record-high levels for both stocks and Gold. Also, the Fed has projected a higher terminal repo rate at +3.00% against earlier +2.75%.

Friday, Wall Street Futures and Gold closed almost flat after a roller coaster move. Wall Street was dragged by Utilities, Techs, Consumer staples, Materials, Real Estate, Banks & Financials, Consumer Discretionary, Healthcare, and Industrials to some extent, while boosted by communication services and energy (higher oil amid favorable US inventory drawdown report and lower USD). Scrip-wise, Wall Street was dragged by Intel, Boeing, JPM, Amazon, and Goldman Sachs, while boosted by Apple, Walt Disney, Walmart, United Health, and Caterpillar.

Weekly-Technical trading levels: DJ-30, NQ-100, SPX-500, and Gold

Whatever the narrative, technically Dow Future (42200) has to sustain over 42300-42500 for any further rally to 42700/42900-43050/43250 and 43500/44000-44500/44800 in the coming days; otherwise sustaining below 42200-42000, DJ-30 may again fall to 41800/41500-41200/41000* and further 40700/40300-40100/40000* and 39700/394350-39000*/38500 in the coming days.

Similarly, NQ-100 Future (19900) has to sustain over 20150 for a further rally to 20300*/20600-20800/21050* and further to 21300/21700-21900/22050 and even 23000 levels in the coming days; otherwise, sustaining below 20100/20000-19900/19800, NQ-100 may again fall to 19600/19350-19100/18900 and further 18750/18550-18400/18200-17950/17600 and 17450-17300/17000 in the coming days.

Technically, SPX-500 (5720), now has to sustain over 5750 for any further rally to 5775/5805*-5850/5900 and 6000/6050-6100/6150 in the coming days; otherwise, sustaining below 5725 may again fall to 5675/5625-5600/5575*-5550/5500-5475/5450 and 5425/5390-5370/5300* and 5250/5100* and further 5050/4950*-4850/4750 in the coming days.

Also, technically Gold (XAU/USD: 2575) has to sustain over 2605 for a further rally to 26252650-2675*/2700 in the coming days; otherwise sustaining below 2595/2590-2585/2575, may again fall to 2560*/2540-2530/2515 and 2495/2480-2470*/2425 and further 2415/2400-2390/2375 in the coming days (depending upon Fed rate cuts and Gaza/Ukraine war trajectory).