In the fall of 2023, the Fed announced that rate hikes were over, sparking a stock market rally. Markets were confident that rate cuts were imminent in 2024, with the first cut expected in March. However, rising inflation data in January and February pushed back the expected timeline for rate cuts to June. Despite this adjustment, the equity markets remained relatively stable as it aligned with the Fed’s projection for three total cuts in 2024.
Before the release of March inflation data, the consensus was that early 2024 inflation was a temporary anomaly and would likely decrease. However, the March CPI data revealed ongoing high inflation, leading to uncertainty about the future trajectory of inflation. Core CPI data now shows price increases accelerating over different time periods, further complicating the situation.
While the Fed’s March “Dot Plot” still indicates a consensus of 3 rate cuts in 2024, a slight change in sentiment from a few members could alter this projection. Some big banks, including Goldman Sachs, UBS, and Wells Fargo, have revised their outlook to only 50 basis points of cuts. Other banks, such as Bank of America, Barclays, and Deutsche Bank, anticipate just a single 25 basis point cut. The equity markets have reacted moderately, with a slight pullback from all-time highs and an increase in 10-year Treasury yields above 4.6%.
Investors are faced with a dilemma of whether to stay fully invested, anticipating the Fed’s first rate cut, or follow the lead of big banks and pre-empt a potential shift in Fed policy. The Fed’s focus on controlling inflation and potential risks associated with cutting rates too early suggest that the consensus forecast for rate cuts may be adjusted in the future. However, strong corporate earnings and economic data are reasons for investors to remain in equity markets, despite the uncertainty surrounding rate cuts.
As the Fed plans to meet in June, investors will closely monitor data on Core PCE inflation and corporate earnings for further guidance. Expectations for first-quarter 2024 corporate earnings are positive, with large-cap companies holding record cash reserves expected to drive growth in sectors such as Tech and Communications Services. Smaller cap stocks may have to wait for their moment as the environment remains challenging for investors to reallocate to these firms.
There may be a tactical opportunity for investors to anticipate a potential hawkish Fed revision in June and reduce equity exposure, although any pullback is expected to be brief. The resilience of the US economy has allowed the Fed to delay rate cuts, and if economic data and earnings continue to perform well, investors may start to view Fed policy as less significant. Ultimately, the future trajectory of the equity markets will depend on a combination of economic data, earnings reports, and the Fed’s decisions regarding rate cuts.
