Powell Presents a "Christmas Gift": The Fed Turns "Dove" and Three Interest Rate Cuts Next Year Are a Foregone Conclusion? Wall Street has different views

Every reporter: Cai Ding    

The market's long-awaited Fed policy pivot has finally given a clear signal.

At 2 a.m. Beijing time on December 14, the Federal Open Market Committee (FOMC) of the Federal Reserve kept the federal funds rate unchanged at 5.25%-5.5% for the third time in a row, in line with market expectations. The "dot plot" that has attracted the most attention from the market shows the obvious dovish turn expectations of officials.

In the press conference that followed, Fed Chair Jerome Powell made it clear that the Fed is entering the end of its rate hike cycle and that discussions about rate cuts have begun.

"The Fed gave the market a Christmas present in advance. Kellie Wood, deputy head of fixed income at Schroders Plc in Sydney. After Powell's remarks, the three major U.S. stock indexes soared, with the Dow hitting an all-time high intraday and gold soaring more than 2% to regain the $2,000 an ounce mark. At the same time, the FOMC's dovish pivot caused the dollar index to fall below the 103 mark, non-US currencies rose across the board, and the 10-year Treasury yield briefly fell below the 4% integer psychological mark......

Looking ahead, Suki Cooper, executive director of precious metals research at Standard Chartered Bank, pointed out in an interview with the "Daily Economic News" reporter that from the Fed's "long-term high interest rate" expectations released to the market two months ago to this week's dovish turn, such a change has created a favorable background for gold, and now gold has restarted to get upward momentum from macro factors.

The Fed is "dovish".

The "dot plot" shows that among the 19 officials who provided interest rate forecasts this time, a total of 16 expect interest rates to fall below 5.0% next year, of which five expect interest rates to be 4.75%-5.0%, estimated at 25 basis points each time, equivalent to two interest rate cuts next year, six expect interest rates to be 4.50%-4.75%, which is equivalent to three interest rate cuts, four expect interest rates to be 4.25%-4.50%, equivalent to four rate cuts, and even one person expects interest rates to be 3.75%-4.0% , which equates to six rate cuts.

Based on this calculation, a total of 11 of the 19 officials expect to cut interest rates at least three times next year. Compared to the previous version of the "dot plot" released in September, the dovish turn of the FOMC is fully revealed.

FOMC December "dot plot" (Image source: FOMC)

The median interest rate projections for Fed officials, released after the meeting, showed that FOMC officials lowered the median of their specific projections for next year: the federal funds rate will be 4.6% at the end of 2024, a 50 basis point cut from the 5.1% projected in September. Fed officials expect interest rates to average 4.65% by the end of next year, implying a 75 basis point cut over the next year, equivalent to three cuts next year, based on 25 basis points each.

However, according to CME Group's Fed Watch, futures markets now expect as many as six 25 basis point rate cuts throughout next year, with rate cuts starting as early as the March meeting. In other words, the market believes that the federal funds rate will be cut by a cumulative 150 basis points to the range of 3.75%~4.00% by the end of next year.

Image source: CME Group

In an email to the National Business Daily, Fitch Ratings Chief Economist Brian Coulton pointed out that "the Fed acknowledged in its policy statement that 'inflation has eased over the past year' and cut its forecast for the federal funds rate by 50 basis points by the end of 2024, sending a strong signal that the Fed believes interest rates have peaked," said Brian Coulton, chief economist at Fitch Ratings. However, while the tightening bias has eased somewhat, it remains, suggesting that the Fed remains concerned about sticky services and wage inflation and tight labor market conditions. In our view, the federal funds rate will reach 4.75% (ceiling) by the end of next year, which is significantly higher than market expectations. ”

Interest rates will be cut as soon as March next year? Investment banks have different attitudes

After the Fed showed a clear dovish turn, the top Wall Street investment banks have advanced their expectations for the timing of the Fed's first rate cut.

According to Goldman Sachs' latest forecast, the Fed will cut interest rates by 25 basis points three times in a row in March, May and June next year. The reporter of "Daily Economic News" noticed that just last weekend, Goldman Sachs' expectations for the Federal Reserve's first interest rate cut had just been advanced from the fourth quarter of next year to the third quarter.

Compared with Goldman Sachs' big strides and adjustments, investment banks such as BlackRock and JPMorgan Chase appear to be more conservative. BlackRock's investment arm expects the Fed to cut interest rates "around late spring and early summer."

Image credit: Edited by Lan Su Ying

JPMorgan Chase & Co. believes that the Fed will cut interest rates for the first time in June next year, compared to the previous forecast of July, and the benchmark rate is expected to be cut by 125 basis points by the end of 2024.

Barclays also expects a first rate cut in June next year, followed by two more cuts, at every other meeting. The bank's previous forecast was to cut interest rates only once in December 2024. Barclays believes that if the monthly inflation data continues to be lower than expected, the rate cut could be earlier than expected in June. But Barclays remains concerned that inflation will rise again.

And Deutsche Bank analyst Jim Reid said in a note that the FOMC meeting did its best to give investors a "Christmas present" in advance. The market's reaction to the news was positive, and it now seems unlikely that the Fed will be able to maintain high interest rates across the board. The bank expects the Fed to start cutting interest rates in June next year.

The yield on the 10-year Treasury note fell below 4%, signaling a recession?

Under the obvious dovish attitude of the Federal Reserve, the dollar index quickly fell below the 103 mark in the 13th Eastern time, hitting a new low since early August this year. As the dollar weakened, gold went on the offensive again. Spot gold successfully regained the $2,000 per ounce mark on the same day.

Spot gold regains $2,000 per ounce Credit: Bloomberg

For the next trend of gold, Suki Cooper, executive director of precious metals research at Standard Chartered Bank, pointed out in an interview with the reporter of "Daily Economic News" that "gold has now begun to get upward momentum from macro factors again, the most obvious is the weak dollar and the expectation of interest rate cuts by the Federal Reserve." A few months ago, the market was worried about the expectation of 'higher-for-longer', but the US dollar weakened in November as the market brought forward the Fed's rate cut expectations to March 2024. Such expectations have created a favorable backdrop for gold. Indeed, gold's upside driver has shifted from geopolitical risks in October to the receding macroeconomic 'headwinds' in November. In October, gold was very strong against the backdrop of the conflict in the Middle East, while other safe-haven assets were flat. Gold then rebounded further, despite the fact that the US dollar remained relatively strong and both nominal and real yields rose. ”

While gold soared, Treasury yields continued to fall. The yield on the benchmark 10-year Treasury note slipped further to 3.93% ET on Thursday, a sharp retreat from the peak of 5.02% reached at the end of October.

The yield on the 10-year Treasury note fell below 4% from above 5% in less than two months Image source: CNBC

Gundlach, the "king of debt" in the United States, warned that this was an alarm to remind the United States that the economic outlook was not good. "I think if the 10-year Treasury yield falls below 4%, it's like a fire alarm for the economy," he said in an interview...... We've broken the trend line, and there's a lot of downside to the current level of the 10-year Treasury yield. The U.S. economy will go down, and this will have a ripple effect, and we will have to print a lot of money. ”

He expects the 10-year Treasury yield to fall further to near 3% in 2024 as he believes a recession will come sometime next year.

The Fed's dovish signals also prompted JPMorgan's economic team to cut its forecast for the US 10-year Treasury yield by 10 basis points to 3.65% by the end of 2024, while expecting the US 2-year yield to fall to 3.25% from the previous forecast of 3.5%.

In addition, as the correlation of economic cycles in various countries around the world has increased, the spillover impact of US monetary policy, as the world's largest economy, has become more prominent.

In general, there is a higher degree of policy coordination among highly interdependent countries. Historically, monetary policy in advanced economies has been more synchronized, with more synchronized rate cuts and more camera-focused rate hikes. For example, in the dot-com bubble of 2000 and the financial crisis of 2008, the Federal Reserve was the first to cut interest rates, followed by advanced economies such as Japan, Europe, Australia, and Canada.

Judging from the current point in time, although ECB President Lagarde said at the press conference on the interest rate decision on the evening of December 14, Beijing time, that "we should never relax our vigilance, and the ECB has not discussed the issue of interest rate cuts at all", according to the analysis of the Financial Times, the ECB may still be under pressure from the Fed's easing policy, because a weaker dollar will lead to the appreciation of the euro, affecting the export competitiveness and inflation level of the euro area.