GM. This is Milk Road Macro, the newsletter navigating the Fed’s vibes like a Tesla on autopilot in a thunderstorm - smooth ride, but hands definitely not off the wheel.
Here’s what we got for you today:
- ✍️ Will we see a “hawkish cut” from Powell?
- 🎙️ The Milk Road Macro Show: How The Fed's Mistakes Push Markets Higher w/ Chris Whalen
- 🍪 Trump seeks to end quarterly reports for public companies
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WILL WE SEE A “HAWKISH CUT” FROM POWELL?
Welcome back to another Fed week.
It’s the most important Fed week of your life (until the next one).
We will see an interest rate decision on Wednesday (very likely to be a 25bps cut).
And then a press conference from Fed Chair Jerome Powell shortly afterwards.
But the Fed is faced with a big dilemma.
The central bank’s “dual mandate” - maximum employment and stable prices - is in conflict.
FOMC members are caught between a weakening labor market (warranting cuts) and inflation that remains “sticky” at best (warranting no cuts).
So, what’s going on with the labor market?
What’s going on with inflation?
What’s the set-up heading into the Fed meeting?
And what does it all mean for asset markets?
Let’s take a look…
Weakening labor market
We’ve seen signs in recent weeks that the US labor market is weakening.
Payroll data showed that job growth has slowed considerably.
June was revised down to -13,000 - the first negative month in years.
The unemployment rate ticked up marginally from 4.1% to 4.3%.
But it is still very low compared to historical levels.
And we also saw Initial Jobless Claims (the number of people claiming for unemployment benefits for the first time) tick up to the highest level since 2021.
But, again, this is still very low compared to historical levels.
A sudden spike in Initial Jobless Claims would be a concerning sign for the US economy - if it continues.
However, it’s likely this latest move higher in Initial Jobless Claims was almost entirely due to unemployment assistance (a lot of which may have been fraudulent) following the effects of severe storms and flooding in Texas.
As I have written previously, my opinion is that the US labor market is cooling, not collapsing.
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WILL WE SEE A “HAWKISH CUT” FROM POWELL? (P2)
“Sticky” inflation
The Fed’s “official inflation target” is 2%.
But we haven’t seen inflation at or below 2% for years and years.
In fact, it has been rising over the past few months.
Inflation has definitely not been “tamed” - and is nowhere near the Fed’s target level.
Core CPI, which strips out the volatile food and energy segments, currently stands at 3.1%.
Core CPI is rising on a 3-month, 6-month and 12-month basis.
If we extract each individual component of CPI inflation, we see that 71.6% of them rose at an annualized pace of more than 2% in August - the highest share since 2022.
However, I think most people have now recognized that, for better or worse, the Fed is not particularly serious about its inflation target.
“3% is the new 2%”.
So, what’s the picture heading into the Fed meeting?
Powell made it clear at his Jackson Hole speech in August that the Fed is now more focused on the employment side of the dual mandate, and less focused on inflation.
This speech was the “green light” for rate cuts ahead.
And so, interest rate traders are almost certain that the Fed will cut interest rates at this week's meeting.
A 25bps cut is basically locked in at this point (96%).
But the market is also pricing in a very slim possibility of a jumbo 50bps rate cut this week (4%).
Looking further ahead, a return to a full-on “easing cycle” is also priced in.
Roughly 150bps of cuts (or six individual 25bps cuts) are priced in over the next 12 months.
And roughly 75bps of those cuts (or three individual 25bps cuts) are expected before the end of 2025.
These current market expectations are aggressively dovish.
What to look out for this week
I’ve said it numerous times before, and I’ll say it again:
There is little evidence of a spooky recession on the horizon, GDP growth is resilient, and earnings are good - so rate cuts are bullish for risk assets over the medium-term, all else being equal.
Or in other words - we’re still in a world of “maintenance” rate cuts, not “panic” rate cuts.
However…
Because a September cut is so widely expected - the rate cut itself is probably not that important at this stage, from a market perspective.
Instead, the market will be paying close attention to what Fed Chair Jerome Powell has to say in his FOMC press conference.
Investors will hope that Powell’s comments “align” with expectations of further rate cuts in the months ahead.
Because so many future cuts are now already priced in - the risk of what’s known as a “hawkish cut” is high, in my view.
I struggle to see how Powell could deliver a “dovish surprise” - be more dovish than the market’s already aggressively dovish expectations.
So, I think it’s likely we’ll see either a “neutral” Powell, or a slightly hawkish Powell.
It’s possible he could push back a little bit on expectations of future cuts - a “hawkish surprise” - forcing the market to re-price future rate cut expectations lower.
So, confusingly, the initial reaction on Wednesday could actually be negative for risk assets like stocks and bitcoin, even though the easing cycle would still be very much alive.
It all hinges on Powell’s comments in the press conference.
What happens when the Fed cuts rates with markets soaring?
Typically, the Fed cuts interest rates in a weak economy with stocks well below record highs.
But, this week, we are likely to see a rate cut with major US stock indices at or near all-time highs and US GDP growth remaining resilient.
This is an unusual situation - but history shows that it’s a bullish catalyst.
According to research from Carson Investment Group, a rate cut when the S&P 500 is within 2% of an all-time high has seen the index up over the next 12 months 100% of the time, with an average gain of 13.9%.
Source: Carson Investment Research
Wrapping up
The Fed’s dual mandate is in conflict - with the labor market weakening but inflation remaining stubbornly “sticky”.
Despite this, the central bank is extremely likely to resume rate cuts this week, and continue to cut rates in the coming months.
However, the big market-moving event this week will probably be Powell’s press conference.
Because the market is expecting a large amount of cuts in the future - the risk is that Powell pushes back on these expectations.
Over to you, Jerome!
That’s it for this edition - catch in the next one.
MILK ROAD MACRO PRO AMA 🎙️
Wanna pick a former BlackRock VP’s brain on the current macro environment?
If you’re a Milk Road Macro PRO or All Access member – you can. Every. Single. Month.
John Gillen is the man in question and he’s kicking off our monthly Macro PRO AMA series tomorrow, at 11am EST, on our Macro PRO Discord.
If you’ve taken part in our previous AMAs – you know the drill:
You can submit questions anytime in the lead up to the event, and John will go through them live, sharing his key insights.
Sound good? Great! Here’s what you need to do in order to take part:
- Submit your questions using this form
- Mark your calendar for Sep 17th
- Join our PRO Discord & don’t miss out
See you on the inside & chat more tomorrow! 🥛
BITE-SIZED COOKIES FOR THE ROAD 🍪
Trump’s nominee for the new Fed Governor, Stephen Miran, was officially confirmed, meaning he will vote at this week’s FOMC meeting (he’s almost certain to vote for rate cuts at every meeting moving forward). Trump had also been attempting to fire existing Fed Governor Lisa Cook, but an appeals court rejected this, so she’ll also be present for voting this week.
The US and China have a framework for a deal on TikTok, according to Treasury Secretary Scott Bessent. TikTok is set to go offline on September 17 unless parent company ByteDance divests itself of majority ownership of the social media app or Trump extends the deadline.
Trump revealed he is pushing for an end to quarterly earnings reports for publicly-traded companies. He wants to see a shift to a six-month schedule as this would “save money and allow managers to focus on properly running their companies, he said.
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