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On Wednesday the Federal Open Market Committee, (FOMC) cut the Federal Funds rate by half of one percent. The U.S. stock market, as expected, had a volatile but positive week. Stocks rallied immediately following the Fed’s announcement but pulled back during Chairman Jerome Powell’s press conference. Powell said the rate decision was a sign of a commitment to avoid getting behind the curve, but no one should interpret this cut as the new pace. He emphasized the Fed’s dual mandate and reminded listeners that inflation is still a part of the central bank’s policy discussions.
For the balance of this year, we are likely to see additional rate cuts that could equal one percent. After a day to digest the information, the marked soared on Thursday.
Major Index Performances (as of Thursday Close):
- S&P 500: The benchmark index rose about 1.54%.
- Dow Jones Industrial Average: The Dow gained 1.52%,
- Nasdaq Composite: The index increased 1.86%.
Though the Fed lowered rates by half of one percent, it may not offer much relief on long-term borrowing, like mortgage rates. The most important interest rate for borrowers in the U.S., the 10-Year Treasury, is moving higher. Before you think about going to refinance, realize this condition may take months to equalize.
To put this in perspective, the 10-year Treasury yield rose to an intraday peak of 3.77% on Thursday, higher than before the Fed’s first rate cut in four years. The divergence in a falling federal funds rate and a rising 10-year Treasury yield highlight the ultimate truth in markets, they are forward-looking, and investors had adjusted their outlook for rates long before the Fed decision. That is evidenced by the fact that the 10-year Treasury yield already dropped 125 basis points from its 5% peak in October. This was our best indicator that our Fed was done hiking rates.
According to Michael Reinking, a New York Stock Exchange senior market strategist, the slight bump in the 10-year Treasury yield suggests investors are feeling good about the potential for a soft landing in the US economy, as such a scenario would suggest the Fed does not need to cut rates as aggressively as the market previously thought. “The reaction within Treasury markets was most telling yesterday,” Reinking said. “Fixed income markets were pricing in a very aggressive rate cutting cycle, suggesting some scepticism with the soft-landing narrative. The aggressive action taken yesterday seems to have acquiesced some of those concerns, potentially leading to a less deep cutting cycle.”
These moves highlight the Fed’s short-term lending rate does not have a serious impact on long-term borrowing rates — for instance, the 30-year mortgage rate might not end up providing much relief for borrowers. Mortgage rates barely budged on Wednesday, while short-term interest rates on high-yield savings accounts and money-market funds dropped within 24 hours.
The 10-year Treasury yield is a lending benchmark for everything from home loans to corporate debt. While companies and consumers have seen some relief from lower interest rates since they peaked in October, it might be a while before they see rates come down further.
The lowering of the Federal Funds rate may be the first step in the Federal Reserve’s attempt to avoid a recession, but this is not an immediate solution. Inflation is still sticky, U.S. savings rates are still low, and credit card debt and interest rates remain historically high. Can we avoid a recession and have a “soft “landing? But we believe planning for less soft landing remains prudent.
Have a wonderful weekend,
Your Portfolio Management Team
