Finland, Intermediary
Changechevron_rightSustainable Investing
Stewardship Principles
Investment Solutions
Funds
The views expressed are those of the author at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed. For professional, institutional, or accredited investors only.
Despite the bond market’s obsession with whether the Federal Reserve (Fed) will cut rates by 25 or 50 bps at the September Federal Open Market Committee (FOMC) meeting, what matters more to markets is where the median FOMC participant believes the policy rate will be at the end of 2025. This insight shows up in the so-called “dot plot.”
At alternating FOMC meetings, Fed officials indicate their expectations for the policy rate over the next three years as well as in the long term. This week, the Fed may make significant changes to the dot plot, compared to just a couple of months ago. At the July meeting, the Fed was indicating only a 50% chance of one cut this year and a policy rate ending 2025 at 4.125%. Today, the market is pricing a 100% chance of the Fed cutting at least once more by December 2024.
Why has there been such an abrupt shift in such a short amount of time? The short answer is a calmer view of the inflationary impacts of the labor market.
In my view, the Fed has shifted its focus to the unemployment side of its mandate because it believes that the labor market is in better balance and is no longer a substantial source of inflation. The Fed’s biggest fear after the pandemic was a return to the wage-price spiral that dominated the inflationary 1970s. Fed officials believe this risk has decreased considerably, so they can revert to their pre-pandemic policy of neutral-rate targeting.
Under a neutral-rate framework, the Fed aims to align its policy rate with the economy’s neutral rate, or the level at which monetary policy is neither expansionary nor restrictive. The longer-term dot is the Fed’s hint as to where it believes the neutral rate will be. This is currently at 2.75%.
This likely explains the U-turn in Fed rhetoric. The recent policy rate of 5.325% is well above the median estimate for the neutral rate and so, in the bank’s view, is overly restrictive. One of the reasons equities have been so resilient despite the slowdown in US growth is because the market assumes that the Fed will quickly get policy rates down to neutral. The market is currently pricing a year-end 2025 policy rate of the same 2.75%.
Getting to that level would require a reduction in the 2025 dot’s position by more than 125 bps. While this is not unheard of, it is unusual, particularly for incrementally minded central bankers. If the Fed does not validate this forward market pricing, volatility could rise. Regardless, while the current parlor game is whether we see a 25 or 50 bps cut, keep your eyes on the 2025 dot, as the destination of policy rates matters as much as the path to get there.
Expert
What is “the economic cycle,” anyway?
Continue readingBy
Can central bank independence survive?
Continue readingBy
Chart in Focus: What does the rate cut mean for equities and bonds?
Continue readingMultiple authors
URL References
Related Insights
Stay up to date with the latest market insights and our point of view.
You've been subscribed
Thank you for subscribing. You can manage your subscription using the links provided in any of our subscription emails.
What is “the economic cycle,” anyway?
See why the relationship between asset prices and the economic cycle is more complex than you might think, why a US recession is unlikely, and what a more dovish Fed could mean for the US and global markets.
By
Can central bank independence survive?
Can central bank independence survive? Macro Strategist John Butler discusses the challenges faced by central banks in an increasingly fraught political environment and how investors should adjust.
By
Chart in Focus: What does the rate cut mean for equities and bonds?
Are rate cuts positive? On the heels of the much-anticipated initial Fed cut, in this article we look to historic precedent for where the markets could go in the coming months.
Multiple authors
Bonds in Brief: Making Sense of the Macro — August issue
What's driving global bond markets and what are the investment implications? Read the August issue of "Bonds in brief" for Wellington Investment Director Marco Giordano's monthly assessment of risks and opportunities within bond markets.
Time to capitalise on the evolving role of bonds?
We outline why we think the new economic era is elevating the role of bonds as a source of attractive and stable income, downside protection and portfolio diversification.
Bonds in Brief: Making Sense of the Macro — July issue
What's driving global bond markets and what are the investment implications? Read July's issue of Bonds in Brief for Wellington Investment Director Marco Giordano's monthly assessment of risks and opportunities within bond markets.
Walking a mile in Fed Chair Powell’s shoes
A slow roll on rate cuts by the Fed could frustrate markets and lead to more volatility ahead of the September FOMC meeting. See our take on what to expect for the next few weeks.
By
Massive market sell-off: Justified or an overreaction?
What's behind the global market meltdown, and what should investors consider doing? Global Investment and Multi-Asset Strategist Nanette Abuhoff Jacobson shares her views.
Still waiting…Fed wants more data before cutting policy rates
Our expert dives into Fed policy following the July FMOC meeting.
Does the US election even matter? Thoughts on politics, Fed policy, and portfolios
What's next for interest rates and what impact will the US election have? Head of Multi-Asset Strategy Adam Berger and Macro Strategist Mike Medeiros share their outlook and discuss the asset allocation implications.
Chart in Focus: Four key areas of opportunities in bonds amid Fed uncertainty
We discuss four key areas of opportunities in fixed income amid Fed uncertainty in the second half of the year.
URL References
Related Insights
© Copyright 2024 Wellington Management Europe GmbH. All rights reserved.
WELLINGTON MANAGEMENT FUNDS ® is a registered service mark of Wellington Group Holdings LLP.
Wellington Management Europe GmbH. Registered office: Bockenheimer Landstraße 43-47, 60325 Frankfurt am Main, Germany. T: +49-69-677761-500. VAT-number DE 326304943 (Umsatzsteuer-Identifikationsnummer) Commercial Register of the local court Frankfurt am Main (Handelsregister des Amtsgericht Frankfurt am Main), HRB 115460 .
Wellington Management Europe GmbH, is authorised and regulated by the German Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht)
For professional investors and intermediaries only. This content is not suitable for a retail audience.
we’d love your feedback!
Help us improve our website. For every short survey taken, we give 2 to the Wellington Management UK Foundation to support educational charities helping economically disadvantaged children in EMEA.
