After cutting rates by a full point, the Fed thinks policy is in a much better place. It remains materially restrictive, but far less so. Per Powell, they can now be “more cautious on more adjustments to policy.” This commentary was related to slower inflationary progress in September and October readings (November was better). While Powell sees the overall disinflationary story as intact, he wants faster improvement. The somewhat disappointing pace led to an upward revision in the Personal Consumption Expenditures (PCE) index estimates for 2025 from 2.1% to 2.5%. This now implies that PCE will rise from 2.4% to 2.5% Y/Y. Core PCE is expected to be 2.5% next year vs. 2.2% in the last summary of economic projections (SEP). Encouragingly, this still represents Y/Y progress from 2.8% to 2.5%, meaning the PCE rise is via volatile food and energy costs, rather than something more structural. 

There are no changes to long-term PCE expectations of 2%.

By inflationary category, Goods-level inflation actually reached the Fed’s goal, which leaves services as the straggler. Sticky housing services inflation is steadily falling. But? Just like for inflation overall, this progress is slower than the Fed is seeking. Powell thinks this is a key reason for delayed disinflationary progress. To me, that’s encouraging. Powell will explicitly tell you that real-time rent inflation is far lower than the Owners’ Equivalent Rent (OER) number used in Fed readings (they should change the methodology). What’s important is that this stubborn obstacle on our way to 2% inflation has real-time readings that still point to continued progress. Timing is uncertain, but the eventual outcome is inevitable.

The overall upward revision to inflation expectations led to coinciding revisions to fed funds rate (FFR) expectations. Specifically, the FFR is expected to be 3.9% next year and 3.4% the year after. Both are 50 basis points higher than previous forecasts. The long-term neutral rate was revised higher from 2.9% to 3.0%. All of this is what markets are reacting so negatively to.

“We still see ourselves as on track to continue to cut in 2025. Actual cuts will be based on new data… Today’s cut was a closer call.”

Powell

The more patient approach to rate cuts relates to the great position of the U.S. economy. In Powell’s words, the U.S. “continues to perform extremely well and substantially better than global peers.” That’s obvious when looking at data. Economic growth was called “remarkable,” while consumer spending was called “resilient.” GDP growth this year is now expected to be 2.5% vs. 2.0% previously. Next year’s growth estimates were revised from 2.0% to 2.1%, while long-term growth expectations remain at 1.8%.

Powell thinks the employment market is still in a great spot and cooling at an “orderly pace.” While they’re “paying close attention” here, slowing jobs growth is not yet concerning to Powell. The unemployment rate exiting 2024 is now expected to be 4.2% vs. 4.4% previously. For next year, it is expected to be 4.3% vs. 4.4% previously. Long-term expectations remain 4.2%.

We’ve had a very fun few months. High beta firms have performed especially well and valuation multiples for countless names have raced higher. A sizable part of that optimism was surrounding confidence in dovish Fed policy. That confidence waned a bit today, with the pace of accommodation now expected to be slower than previously thought.

I don’t think this is the time to panic or start liquidating anything. The Fed is not gearing up for another hike cycle. It’s simply planning to cut more leisurely. And why is it doing this? It’s not just because of the slower disinflationary trend (which is still intact). It’s also because economic growth and employment have been much better than expected. The resilience is palpable. To me, consumer spending and overall GDP growth being in great shape matter more for multi-year earnings growth than how quickly the next rate cut comes. That’s rational, but Mr. Market is often irrational in the short term.

And while I don’t think it’s time to panic, I also don’t think this is the time to rush back into frantic accumulation mode either. The moves today are tiny in comparison to what we’ve seen in the last 3 months. If the daily charts are stressing you out, I would recommend switching to 90 days and seeing how far your stocks have run. Things cannot go up in a straight line forever, and yet they have over the last quarter.

When macro tailwinds become weaker, forward valuations, liquidity and investor sentiment become more challenged. I want my biggest risk to be missing an opportunity to add to existing holdings and perfectly timing a local bottom if something like a positive PCE print comes this week. I think racing to buy these dips is a bit risky at this point, and I’d like to let things flush out more before I do. This is not me saying I’m hunkering down for another 2022-2023-type market correction. It is simply me acknowledging that things have doubled and tripled in a very short period of time. This is not the August 5th Japan Carry Trade drama that brought companies from fairly priced to quite cheap. This is dragging overheated companies from quite expensive to reasonable. I’d like to give the market the chance to grant me a better deal, and I have funds ready to deposit if that comes. We shall see! 

As Max readers know, I haven’t really made a large deposit in the recent past. All of the recent adding has been reallocating profits from other stocks and the emergency savings cushion has therefore grown. I have funds worth about 7% of my overall portfolio ready to allocate if things get juicier. I’ll keep you posted in real-time as always.

Final note on capital market participants like SoFi and Lemonade and the overall impact on them specifically:

I think the impact on names reliant on capital market liquidity will be sentiment more than anything. Whether it’s SoFi, Lending Club, Affirm, Lemonade or others, rapid cutting isn’t what these companies need to win. In SoFi’s case, they simply wanted 2 rate cuts and have already gotten 4.

These companies probably needed some monetary accommodation, but that already came. Rates have already become far less restrictive than they were and easier monetary policy will be in the Y/Y comps throughout 2025 to help growth. I don’t think this group needs rapid rate cuts from here. To me, it simply needs to avoid another aggressive, uncertain rate hike cycle. That seems extremely unlikely for the foreseeable future. While I think there could easily be more near-term turbulence (why I’m not jumping to add to everything today), I am not worried about threats to 2025 forecasts.