Key Takeaways
Growth and inflation have remained remarkably resilient since the start of the year, causing the market to once again rethink the Fed’s rate path. As a result, the odds of a June rate cut have collapsed, with the market pricing in less than a 20% probability of a rate move – down sharply from over 50% last week. The number of expected interest rate cuts has dwindled from six at the start of the year to fewer than two today. And with Treasury yields soaring to year-to-date highs, the equity market is starting to notice. To be sure, the latest data does not increase the Fed’s confidence that inflation is moving sustainably down to its 2% target; however, there are four reasons the current uptick in inflation is not the start of a new trend:
Bottom line | Hotter than expected inflation has reduced market hopes for rate cuts, as expectations for 2024 rate cuts have fallen from six at the start of the year to around two today. However, it is important to remember that the Fed’s preferred measure of inflation is PCE, and much of the upward pressures on CPI (e.g., shelter, auto insurance) are not weighted as heavily within PCE. This should lead to continued downward pressure in the PCE; the Cleveland Fed expected core PCE to moderate to 2.6% YoY by April (which would be the slowest pace since March 2021). As we expect economic activity to moderate, the labor market to normalize and the downward trend in inflation to continue, we expect the Fed to cut rates three times in 2024.
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