March Rate Cut
January 23, 2024
The logic behind pricing in a March rate cut originally came from Fed officials’ repeated emphasis on the annualized 6-month run rate core PCE. That measure should fall below the Fed’s 2% inflation target prior to the March meeting. December core PCE on Friday will be the macro highlight of the week. The market-based probability for a March rate cut has fallen below 40%. The probability began to fall after a number of Fed officials (Chris Waller in particular) expressed a preference to wait until inflation is sustainably below 2%. Some of the pushback from Fed officials comes from an expected reacceleration in January inflation based on Red Sea shipping disruptions. This Friday brings December PCE inflation, which will likely influence rate expectations, bond yields and equity markets. We expect the first rate cut will happen in June with successive 25bp cuts at the next two meetings. One-year real yields currently sit at +200bp, which is unsustainably restrictive and the Fed is likely aiming for something closer to +100bp initially. This implies a Fed funds rate of 3.25%-3.5%, which should be bullish for equity markets provided there isn’t a growth scare in the meantime.
Near-term technical support for the SPX sits at former range resistance near 4800. The break above 4800 is a bullish signal, but only if sustained with cyclical sector leadership. Higher SPX levels led by defensive sectors should be considered an early bearish signal. The two best performing sectors today, Staples and Comm Services (telcos leading) are both defensive, but this would need to continue for about two weeks to have bearish implications in our opinion. The last time we had a bull market led by defensive sectors occurred in mid-January 2020 with the SPX breaking down about a month later.