🥛A “hawkish cut” from the Fed? 🦅

GM. This is Milk Road Macro, the newsletter that deciphers “hawkish cuts” so you don’t have to pretend you already knew what that meant.

Here’s what we got for you today:

✍️ What does the Fed meeting mean for asset markets?
🎙️ The Milk Road Macro Show: Why The Fed is Pouring Fuel on This Bull Run w/ Bill Fleckenstein
🍪 US and China agreed to a one-year trade truce

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WHAT DOES THE FED MEETING MEAN FOR ASSET MARKETS?

It’s been another action-packed Fed week.

On Wednesday we got a 25bps rate cut - and an end to the Treasury portion of the Fed’s Quantitative Tightening (QT) regime.

But this meeting was all about what Fed Chair Jerome Powell had to say in his press conference.

And in the end, we got a slightly grumpy, and even somewhat sassy, Mr. Powell.

So, why was this a “hawkish cut”?

What are the latest odds for a December rate cut?

What’s going on with QT?

And what does it all mean for asset markets?

Let’s take a look…

Hawkish cut?

The market came into this meeting very confident in a rapid Fed easing path.

An October cut was basically locked in (which we got), a December cut was also pretty much locked in, and more cuts were also expected early next year.

I wrote in Tuesday’s newsletter that this set-up meant there was very little room for Fed Chair Jerome Powell to deliver a “dovish surprise” in his press conference - and the chance of a “hawkish cut” was high.

So what is a “hawkish cut”?

It’s when we see a rate cut - but a dampening of expectations for future easing.

And this is what we got - with Powell heavily pushing back on expectations for future rate cuts.

Powell said there were “strongly differing views about how to proceed” with policy.

He also said quite defiantly that a rate cut in December “is not a foregone conclusion, far from it”.

This particular comment was interesting because he looked down and read it off a script - so it was a deliberate message, not an off-the-cuff remark.

And he actually repeatedly used that phrase “far from it” multiple times in his press conference.

He also added that “there is a growing chorus of feeling we should wait a cycle” (I think in this case, “a cycle” means “a meeting”).

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WHAT DOES THE FED MEETING MEAN FOR ASSET MARKETS? (P2)

Future rate cut odds tumble

Grumpy Powell caused odds for future rate cuts to fall.

Interest rate traders pushed pricing of a 25bps December cut from more than 90% before the meeting down to 72% (left hand bar below).

Source: CME FedWatch

And pricing of a further 25bps cut in January fell from 47% before the meeting to just 25% (left hand bar below).

The odds of no cuts over the next two meetings now stands at 19% (right hand bar below).

Source: CME FedWatch

Divided Fed

The Fed as a central bank is famous for almost always being unanimous in its policy decisions.

But this is far from the case now.

We got two “dissents” this week - with two voting Fed members making it known that they disagreed with a 25bps rate cut.

Stephen Miran (the newest Fed Governor, nominated by President Trump) favored a 50bps cut, while Jeffrey Schmid preferred no cut at all.

The Fed now finds itself at a critical crossroads, not only are there obvious internal divisions over how much further to ease, but there’s also a growing data blackout caused by the ongoing Government shutdown.

With the shutdown halting key economic data releases, Fed members are relying on a thinner stream of information to gauge the economy’s health.

Powell cautioned that the limited data could justify a more careful approach, stating that “if there is a high level of uncertainty, then that could be an argument in favor of caution about moving”.

How did markets react to the Fed meeting?

Risk asset markets generally reacted slightly negatively to Powell’s comments.

But honestly, the initial reaction was quite muted.

The S&P 500 dropped about 1% but has since recovered most of the losses (at the time of writing).

Source: TradingView

Bitcoin dropped about 3.5% during and after the Fed meeting, but has also largely recovered those losses (at the time of writing).

Source: TradingView

An end to QT?

The Fed also announced its balance sheet run-off, or QT, will come to an end on December 1.

I covered QT in detail here - including what it is, why it matters and why it’s being stopped.

The Fed will stop unwinding the Treasury holdings off its balance sheet, but will continue the runoff of its portfolio of mortgage-backed securities (MBS).

It will then use the proceeds from the MBS run-off to reinvest into Treasury bills.

So what in the world do all these words even mean?

Is this QE?

Is this stimulative to asset markets?

This is a complicated and nuanced subject - and is just simply too in-depth for this newsletter.

I will probably look at this subject on its own in a future newsletter so I can explain everything properly and (hopefully) simply.

What I would say here is that, no, this is not anything like the “QE” we’ve seen in the past.

Wrapping up

While this Fed meeting was clearly more hawkish than expected - this was all about gauging small shifts in Powell’s tone, relative to expectations.

Overall, the easing cycle is still continuing, the Fed is still “running it hot” and it’s still all bullish for risk assets generally over the medium-term.

We’re just splitting hairs here over the exact timing of future rate cuts.

I personally think the Fed will probably still cut rates in December anyway - Powell just decided that he wanted to look tough this week.

The 1,000ft view is that the Fed is still cutting rates into a resilient economy, a recession is unlikely and the stock market is at all-time highs.

According to JP Morgan:

“This week will be the fifth time that the Fed cut rates with the S&P 500 at all-time highs. All prior instances the S&P 500 was higher a year later with an average return of 20%. The worst one-year return was a 15% gain which occurred last year.”

That’s it for this edition - catch you in the next one.