By Peter Bergman (MoneyAmped.com)
The Federal Reserve delivered an optimistic message to a U.S. stock market that is currently at record highs. Despite the economy’s stronger-than-anticipated growth, the central bank maintained its rate-cut projections for 2024.
Over the past few weeks, the market’s anticipation of the extent to which the U.S. central bank will reduce rates this year has been gradually diminishing despite the steady rise of stocks. This is due to the presence of solid growth indicators and persistent inflation.
Fed Expectations Remain Unchanged
However, on Wednesday, Fed Chairman Jerome Powell stated that the Fed’s expectations of easing price pressures remained unchanged despite the evidence of economic strength. Despite significantly revising its economic growth forecasts, the central bank maintained its projection for a total of 75 basis points in rate cuts for 2024. This provides reassurance to investors who have invested heavily in stocks, anticipating a smooth economic transition where the Fed can control inflation without negatively impacting growth.
“The Federal Reserve has a strong inclination to decrease interest rates and holds the belief that inflation is decreasing and will persistently decrease,” expressed Jason Draho, the head of asset allocation Americas at UBS Global Wealth Management.
Although some investors expressed doubts about the Federal Reserve’s ability to meet its rate cut projections, the market responded positively on Wednesday.
The S&P 500 finished the day with a 0.9% gain and reached a new record closing level, while the Nasdaq Composite surged by 1.25%. The rate on the standard 10-year Treasury, which fluctuates in the opposite direction of prices, was recently reduced to approximately 4.28%.
Last year, the Federal Reserve played a significant role in boosting the stock market by indicating its intention to shift towards lowering interest rates. This shift came after a period of raising rates, which was aimed at reducing inflation that had reached its highest level in four decades. The Federal Reserve last increased interest rates in July of 2023.
However, investors in the current year have had to adjust their expectations for easing, lowering their projections for reductions from the initial 150 basis points that were factored into futures markets in January to approximately 80 basis points.
Despite maintaining its rate cut projections, the Fed recognized the economy’s robustness by revising its forecast for 2024. The new projection now stands at a 2.1% expansion, a significant increase from the previous estimate of 1.4%.
The Projections Are in Line With the Expectations of Numerous Investors
A majority of fund managers, as per a recent survey conducted by BofA Global Research, expressed their anticipation of an economic soft landing.
“The idea that the Federal Reserve is open to allowing inflation to increase and promoting economic growth is well-received by the markets,” commented Matthew Miskin, co-chief investment strategist at John Hancock Investment Management.
Miskin is heavily invested in U.S. large-cap stocks compared to his benchmark. Draho, from UBS, has a greater allocation to small caps than large caps in his portfolios. This is due to his belief that the U.S. economy is at the beginning of a business cycle rather than nearing its end. He expects this to be advantageous for companies with a higher focus on the domestic market. The Russell 2000 index, which primarily focuses on small-cap stocks, has experienced a year-to-date increase of 2.4%.
However, confident investors expressed skepticism regarding the Federal Reserve’s ability to implement a 75 basis point reduction as indicated in its “dot plot.” This plot illustrates the interest rate projections of the 19 Fed policymakers. The doubts stem from the robustness of the economy and the persistent inflation levels, which continue to surpass the Fed’s target of 2%.
Investors had initially anticipated the Federal Reserve would commence reducing rates in March. However, perspectives have changed, and futures markets are currently indicating a potential rate cut in June.
“I have reservations,” expressed Eric Vanraes, the leader of fixed income at Eric Sturdza Investments in Geneva, Switzerland. The Federal Reserve’s perspective on economic expansion does not align with the notion of implementing three interest rate reductions.
The Fed’s projections indicate that policymakers may be more inclined to maintain higher interest rates for a longer period to prevent inflation from falling below their target or surging again. This reflects the anticipation of a more challenging economic situation.
Out of the 19 policymakers at the Fed, a significant number of them anticipate multiple rate cuts this year. Specifically, nine policymakers expect three quarter-point rate cuts, while an equal number of policymakers foresee two or fewer cuts. Just a single pencil marked down more reductions than the average, in contrast to five in December.
Jon Mondillo, the North American fixed income chief at ABRDN, expressed his intention to incorporate duration into the bond portfolio, which gauges its responsiveness to interest rates. However, he preferred to exercise caution and await further confirmation of the Federal Reserve’s commitment to easing.
“It’s important to remember that if we examine the dot plot, it would have required just one additional member to support two 25-basis-point cuts,” he stated.
