Inside Markets — Summary of Economic Projections

The year-end momentum reversal usually results in Eurozone indices outperforming US benchmarks. The momentum reversal started last Tuesday (11/28) with the EuroStoxx 50 (SX5E) up +3.16% vs. the SPX up +0.30% and the NDX -0.81%.  Remember, the momentum reversal began a bit early this year due to the sharp pullback in bond yields that occurred last month. Eurozone inflation expectations have been falling more rapidly than those in the US, so rotation into Eurozone equities will likely be more pronounced than prior years. The SX5E managed to break above the late-July peak to an all-time record high today. Eurozone outperformance is usually discussed every January before the trade unwinds.

The Fed’s Summary of Economic Projections (SEP) was last updated in September.  The Summary of Economic Projections includes the closely followed dot plot. The bond market is currently pricing in ~120bp of rate cuts into the end of next year for an implied Fed funds rate of 4.08%. The Fed’s Summary of Economic Projections from September included a year-end ’24 median dot of 5.125%. Next week’s updated median ’24 dot needs to move lower for the prevailing soft landing narrative to continue.  An unchanged median dot or small downtick to ~5% would likely result in the narrative shifting toward an imminent recession.  A dominant recession narrative is unlikely to have equity-friendly implications.

The Summary of Economic Projections also includes an important but underfollowed ‘central tendency of core PCE’ number.  Core PCE is the Fed’s preferred inflation measure with the last SEP estimating a year-end ’24 range between 2.5%-2.8%. Note the June Summary of Economic Projections showed a range between 2.5%-3.1%.  The US economy is entering a new phase that will ultimately result in easier monetary policy.  The soft-landing narrative assumes the Fed will preemptively ease if core inflation shows signs of returning to 2%. Next week’s core tendency of core PCE is unlikely to give markets confidence in a preemptive easing, but further tightening of the range or a sub-2.5% number should be a bullish development for equity markets. Unfortunately, central bank policy tends to be reactive rather than proactive and aggressive rate cut expectations in the OIS forward curve seem to imply that the Fed will be forced to cut rates.