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Inside Markets — Slowing


July 1, 2024

We expect the Fed will cut rates later this quarter in response to slowing growth rather than for ‘policy normalization’ reasons amid falling inflation data. Inflation (core PCE) should continue to moderate MoM but base effects will likely keep the YoY rate at elevated/uncomfortable levels until November/December.  An imminent Fed rate cut will likely be preceded by a sharp steepening in the 5/10-year yield curve.  The 5/10 curve re-obtained its positive slope last week and is now +4bp.  In our opinion, a 5/10 curve north of +19bp should precede a Fed rate cut by 1-2 months.  Note that a steepening of the yield curve will often result in equity investors looking across the valley to a policy-induced cyclical recovery ahead.  And the realization of a cyclical recovery should first start with a bullish inflection in the Russell 2000 (RTY) that we define as a break above 2140 (+5.5% above current levels).

Weak market breadth, thin leadership and investor crowding in the largest stocks by market cap are current internal characteristics that usually occur in the later stages of an aging bull market.  Hedge fund and CTA metrics suggest that long equity positioning is elevated/stretched. The good news is that bullish equity sentiment may be elevated but not yet at extreme levels that often precede (weeks) a bearish inflection.  Rising equity volatility is the trigger for any of this to matter and VIX levels >20 should be a reason to exercise more caution.

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