When it comes to predicting interest rates, Wall Street appears to be bewildered! Currently, the market is buzzing with expectations of the Federal Reserve making not one, not two, but six interest rate cuts in the coming year! This scenario unfolds against a backdrop of robust employment figures, surging wages, and record-breaking holiday retail sales. It seems improbable that the Fed would embark on such a drastic path unless a major economic shock were to disrupt the current stability.
The prevailing belief that the Fed will slash rates simply because it has paused raising them is questionable. Zero or near-zero interest rates are not the norm, and Fed Chair Jerome Powell is unlikely to lower rates without a clear economic downturn. Powell, mindful of the risks, won’t allow inflation to rear its head again under his watch.
Does the possibility of a recession exists? Yes! Are there signs of an imminent downturn? No! If a recession were to materialize in 2024, it appears too late in the year for the Fed to cut rates the predicted six times.
The uncertainty surrounding interest rates is reflected in conflicting signals from different market indicators. The fed funds futures market suggests a high likelihood of rate cuts, with a 99.9% probability by June and 100% by November. However, the 10-year Treasury yield, a general indicator for interest rates, presents a different narrative. In May, despite a 99% probability of a rate cut by March 2024 according to fed funds futures, the 10-year Treasury yield embarked on a roller coaster ride, initially surging to 5%. This suggested the bond market foresaw an overheated economy prone to inflation rather than the recession forecasted by the futures market. The yield later retraced its steps, sliding back to 3.8%, aligning more closely with the fed funds futures market. Yet, recent weeks have seen the yield climb back above 4%, prompting investors to question the inevitability of rate cuts.
In the face of extreme sentiment, with a 100% probability of rate cuts deemed “written in stone,” it’s worth considering the alternative view. The case for the Fed cutting rates in the near term, particularly as early as March, seems weak. Stability in interest rates throughout the year appears a more plausible scenario, challenging the prevailing consensus on Wall Street.
Sven Fransssen