Leading into this week’s inflation reports, the question wasn’t whether the door would be open for interest rate cuts, but rather if the Fed would choose to creep inside or rush. After data on consumer and producer prices, the matter seems to be cleared up if only a little: Markets now expect a better chance for a quarter percentage point cut in September, but are still entertaining something more aggressive. Commentary following the second of the two releases, the consumer price index , indicated that the Fed is still weighing variables but more likely will be inclined to start off slow. “Though there is still plenty of time to demonstrate otherwise, we don’t believe that today’s data represents an urgent need to cut 50 basis points in September,” said Lauren Goodwin, chief market strategist at New York Life Investments. “Economic momentum is slowing, but signs that we are already in recession – such as a meaningful rise in jobless claims or deterioration in corporate outlook – are not yet flashing red.” With the more cautionary and less urgent approach setting in, traders in the fed funds futures market assigned about a 56% chance that the Fed would opt for the quarter-point, or 25 basis point, move at the Sept. 17-18 open market committee meeting, according to CME Group calculations. Equity markets didn’t think much either way. After rallying sharply Tuesday on a producer price index that rose just 0.1% in July, the major averages were slightly higher after the CPI indicated a 0.2% month gain and a 2.9% annual rate, the lowest since the spring of 2021. On the bond market side, longer-term yields were mostly lower, but the policy-sensitive 2-year note moved little. US2Y .SPX 5D line Yields and stocks In all, a market looking for the Fed to get off the stick and start easing soon was still taking it all in. A Fed reticent to move could face a sharp market reaction, but deeper rate cuts could signal darker things, said Liz Ann Sonders, chief investment strategist at Charles Schwab. “More significant deterioration in the labor market than what we’ve seen could trigger a more aggressive stance,” Sonders said. “Be careful what you wish for in hoping the Fed moves more aggressively. History shows a fast cutting cycle as opposed to a slow cutting cycle is not one that rewards equities.” The current futures pricing suggests the September cut would be followed by a 50 basis point move in November and another 25 basis point reduction in December. However, fed funds futures pricing has been even more volatile than usual this year, and the market now appears more concerned that the Fed acknowledge a potentially deteriorating labor market . “I do worry that the Fed is basically fighting the last war,” said Tani Fukui, macroeconomist at MetLife Investment Management. “The last war on inflation was in 1980, when inflation was something like 15%.” With core personal consumption expenditures prices heading toward 2%, “That’s a completely different world, and I think we’re overthinking it.” Fukui noted the rising unemployment rate and its potential for triggering recession indicators, though she doesn’t think the economy is in an actual contraction yet. “It’s not something I would play with in the interest of perfection on the inflation side,” she said. “A one-time aggressive 50 basis point cut would go some ways toward alleviating some of that pressure.”
