Balancing a Fed mid-cycle rate cut with markets

As expected by the Fed Funds futures market, the Fed cut interest rates by 25bps to a range of 1.75%-2.0% today.

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Daniel Casali
Published: 19 Sept 2019 Updated: 13 Jun 2022

As expected by the Fed Funds futures market, the Fed cut interest rates by 25bps to a range of 1.75%-2.0% today.

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Commenting on the data, Daniel Casali, Chief Investment Strategist at Smith & Williamson Investment Management, noted:

“The Fed has a difficult job to balance market rate expectations with what is required to sustain the business cycle. Back at the July interest rate setting meeting, Fed Chair Powell said that the interest rate cut was a “mid-cycle adjustment to policy” following the sharp slowdown in manufacturing and trade activity. The harsh reality is the rate cut was largely forced on the Fed as an insurance policy against a more broad-based downturn from President Trump’s trade protectionist agenda. The Fed made similar “insurance cuts” in 1995-96 and in 1998.”

“Looking forward, the Committee’s latest median interest rate projections indicate no further cuts for the rest of this year or for 2020. Given that there appears to be a dialling down in US trade war threats, that would seem appropriate.”

“Moreover, the economy probably does not appear to need a material shift in policy easing. US market interest rates are already low; a 30-year mortgage rate now costs a historically undemanding 3.5% per year. Job creation is healthy and wage gains are accelerating as the labour market tightens somewhat. Consumer confidence is high, inflation appears benign and fiscal policy is being loosened to support the economy.”

“The bottom line is that further significant rate cuts could end up being counterproductive if investors view the Fed as “panicking” over the state of the economy. If that were to happen, recession risk would then rise, and equity valuations would fall to discount this possibility.”

“Considering that much of the yield curve is negative outside the US, having positive interest rates should be viewed as a mark of a relatively healthy economy!”

Source: Thomson Reuters Datastream, Smith & Williamson Investment Management LLP (data correct as at 13th September)

By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article. This briefing does not constitute advice nor a recommendation relating to the acquisition or disposal of investments. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. Details correct at time of writing.

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Notes to editors
Smith & Williamson is a leading financial and professional services firm providing a comprehensive range of investment management, tax, financial advisory and accountancy services to private clients and their business interests. The firm’s c1,800 people operate from a network of 11 offices: London, Belfast, Birmingham, Bristol, Dublin (City and Sandyford), Glasgow, Guildford, Jersey, Salisbury and Southampton. Smith & Williamson is part of The Tilney Smith & Williamson Group.

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This article was previously published on Smith & Williamson prior to the launch of Evelyn Partners.