How quickly things can shift. What looked like absolute certainty at the beginning of November, has seemingly done an about-face. Prior to the election of Donald Trump, the U.S. Federal Reserve cut the federal funds rate by 50 basis points and followed with another 25 basis points reduction just after Election Day. The markets had been pricing in five to six additional cuts. The “doves were in the air” as the U.S. Stock markets hit all-time highs and interest rates fell, with investors seeking to get ahead of the anticipated rate cuts.
Initially, fear was a concern for investors as they began to recalibrate to the reality of the Trump 2.0 administration. Their concerns escalated to alarm, yet the U.S. equity markets continued to rise. Simultaneously however, bonds moved higher, reversing course, and defying many pundits and the popular press. Volatility, as a gauge of risk within the markets, declined, as indicated by the VIX Index.
Nonetheless, economic results have painted the real picture. Inflation, regardless of which metric one utilizes, sits squarely at an elevated level, or continues to accelerate (Graph 1). The Consumer Price Index (CPI) at 3.3% YOY, remains above the 2.0% level that the Federal Reserve has targeted. The Producer Price Index (PPI) also remains above the 2.0% level, standing at 2.4%. The Fed’s preferred device for tracking inflation, the Personal Consumption Expenditure (PCE) Index, also persists above the 2.0% level, elevating to 2.7%.
With inflation remaining or rising above the Fed’s comfort level and U.S. Gross Domestic Production (GDP) steadily declining, stagflationary aspects appear to be percolating within the U.S. economy. U.S. GDP, measured in nominal terms, clearly can be seen trending lower (Graph 2). The combination of slowing economic output and inflation that persists or even increases, is leading to the deteriorating outlook for the U.S. economy.
While a slowing economic trajectory was the pre-election impetus for the Federal Reserve’s 75 basis points reduction in the Fed Funds Rate to 4.50%. Yet, it seems as if the cross currents within the economic data are heightening bond investors’ apprehensions that the Fed will slow its rate reduction pace or even cut the rate cuts all together. It’s looking like the Fed will have to cut the cuts!
Source: Bloomberg LP. Content should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the author as of the date of publication and are subject to change. Material presented is believed to be from reliable sources, however, we make no representations as to its accuracy or completeness. This document does not constitute advice or a recommendation or offer to sell or a solicitation to deal in any security or financial product.
