The market again has adjusted its view on rate cuts, with as few as two now expected

Published Mon, Apr 8 20241:46 PM EDTUpdated Mon, Apr 8 20246:15 PM EDT

Markets this week will get two key signals on how soon and to what extent the Federal Reserve will cut interest rates. The result could well be a test of investors' patience as indications mount that what was expected to be an aggressively easing central bank this year instead will be one where caution prevails. That's because minutes from the most recent Federal Open Market Committee meeting, plus the latest reading on the consumer price index, will likely point toward inflation that has not yet been vanquished, thus necessitating a slow move toward easier monetary policy. Both reports are due Wednesday. "While investors seem to be anxiously awaiting easing monetary policy, the current environment does not quite scream 'rate cuts!'" strategists at Glenmede said in their weekly market note Monday. "With a strong labor market, expanding manufacturing and climbing commodity prices, the Fed will likely be in no rush to cut rates." That sentiment has manifested itself lately in market pricing. Where traders started the year pricing in as many as seven rate cuts this year — assuming quarter percentage point increments — the indication Monday morning was about a coin flip between two and three reductions, according to the CME Group's FedWatch gauge of the fed funds futures market. 'The right time to cut'? Market-implied pricing further indicated just a 51% chance that cuts will start in June, effectively pushing the first move out to July. The implied fed funds rate by December is 4.8%, or about half a point below where it stood Monday. Investors in turn have worried that a slow-to-cut Fed will endanger a stock market rally that, last week's sell-off aside, has still resulted in a more than 9% gain in 2024 for the S & P 500 . Minutes from the March meeting, should show how the FOMC is viewing the recent inflation data. That same day, the Labor Department will release the CPI report, which is expected to show the headline inflation rate rising 3.4% in March on a year-over-year basis, per Dow Jones. That compares with a 3.2% pace in February . The core rate is anticipated to edge lower to 3.7% from 3.8%. This is nonetheless "the right time to cut rates," wrote David Kelly, chief global strategist at JPMorgan Asset Management. Kelly said the "strongest argument" for easing is the "value in normalizing policy before the data say that it is necessary." "On balance, then, it still looks like the Fed would be wise to get going on rate cuts in June, in line with its current schedule," he said. "Whether they do so or not, however, will depend on monthly inflation numbers and particularly CPI numbers in the near term." Inflation pressures persist Other indicators, though, could push the Fed toward a more defensive approach. Average hourly earnings rose another 0.3% in March and were up 4.1% from a year ago, still well above the pace that the Fed considers consistent with its 2% inflation goal, according to the Labor Department. While there are differing views over the cause-effect dynamics of wages and inflation, the elevated levels still being seen are another deterrent to action. The pace of wage increases has been declining by less than 0.1 percentage point per month over the last two years. That means it will take another 14 months for wage growth to reach the 3% annual pace that's in line with Fed's overall inflation goal, according to Nicholas Colas, co-founder of DataTrek Research. "The slow cadence of wage growth reductions is a central reason why the market is right to reevaluate both when the first Fed rate cut will come and how many there may be over the next 12 months," Colas wrote. "We still believe the first cut will be in July as long as inflation readings do not materially surprise to the upside." One bright side to the Fed not cutting is the assertion from officials that they can afford to be patient because higher rates are not slowing economic growth to any serious degree. That's a good news-good news scenario, though, that the market has been slow to embrace. "The only reason to lower rates here is if you really believe that tight monetary policy over the past two years is still weighing on the economy going into into the rest of the year, without any evidence of that actually being the case," market veteran Ed Yardeni, head of Yardeni Research, said in a recent interview. Markets did stage a rally Friday after another better-than-expected nonfarm payrolls report, indicating some peace with a stronger economy that elevates rates. However, an early move higher Monday fizzled amid what has been a fickle nature among futures traders when pricing in the likelihood of rate cuts. A potential longer-run source of relief could be the upcoming corporate earnings season, said Quincy Krosby, chief global strategist at LPL Financial. S & P 500 earnings are projected to increase 3.2% for the first three months of the calendar year then progress higher for a full-year growth rate of 10.9%, according to FactSet. "What has underpinned this market is the promise of a series of rate cuts including March, and now it has dwindled to just a few rate cuts. What the question has become is, what happens if there's only one? What happens if the Fed doesn't cut rates? What happens to the market?" Krosby said. "Well, you need a substitute, and that substitute could very easily be stronger-than-expected earnings."