‘The time has come,’ the Walrus said,
‘ To talk of many things:
Of shoes — and ships — and sealing-wax —
Of cabbages — and kings —
And why the sea is boiling hot —
And whether pigs have wings.’
-The Walrus and The Carpenter, from Through the Looking Glass and What Alice Found There by Lewis Carroll
Here’s another clue for you all, the Walrus is Jay. “The time has come,” the Chairman said in Jackson Hole, “for policy to adjust.” He further elaborated, “…and while the direction of travel is clear, the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks.” Although less poetic, the meaning is, perhaps, about the same in the end. But like Beatles fans on a Magical Mystery Tour, the treasury market came to its own interpretation, and, as of the end of August, discounted at least one cut in September, four by December, and about 70% odds of nine by December of 2025.
The Turn. As far as rate cut discounting goes, we were here before, more or less, at the beginning of the year. But at that time, we had only been dealt the pocket cards (switching analogies). We didn’t get the Flop until the third benign inflation report and the alarming employment report. But things can change a lot with two more
cards on the come. Think of Jackson Hole as the Turn. A pretty decisive change in the reliability of the odds. Perhaps we can call the actual September 18th Fed meeting the River. After that, we can rake in the cards and start another hand and call it the rate cutting cycle.
Looking through a glass onion. It’s what we do. Peer through a prism into the future and make our best determinations as to what we see and how it will unfold. We think it is likely that the River will be a twenty-five basis point cut accompanied by language indicating that there is no set, predetermined path for how many more
and when and how long that will last, and that each meeting will be “live,” and decisions will be made based on the data as it is at the time. We think that one of the biggest questions from here is will long rates go up or down and that will be dependent on whether we fall into recession or not.
The cards we hold versus what’s in the deck. Unlike in Texas Hold ‘em, we can choose what we have in our hand and change that positioning even as the deck cards are being dealt. Our impression of the table is that the consumer is under increasing pressure from high prices, high debt, and high interest rates. On top of that, we see both anecdotal and hard evidence of weakening job creation, and openings, and slower and in some cases declining, wages. Demographically, we see this creeping up the income scale and potentially having a broader effect on the population. For now, spending and employment are OK. The pressures are likely to persist, however, and the question is can they be ameliorated with lower rates? The other major factor that we and all the other players are watching is the development of AI and its end uses. This includes the “chips,” models, and software that run and implement it, and the data centers, equipment, real estate and power generation that is required to make it happen. These forces continue to push forward, and their positive impact may extend the cycle but there will almost certainly be hiccups along the way.
Leadership, rotation and broadening in the equity markets indicate for a more diversified positioning. The markets will have some backing, filling and adjusting to do as the real and anticipated effects of lower rates are brought to bear on the economy. We maintain our emphasis on quality and look for opportunities to reduce risk through smaller incremental exposures throughout economic sectors and asset classes.
Source: Factset, Federal Reserve
By Thomas Martin, CFA, Senior Portfolio Manager
Originally published September 4, 2024 at Globalt Investments
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