Once A Grinch, Forever Changed

• It appears that inflation has settled into a tolerable range, with 3-month and 6-month core PCE trending at a 2.3% - 2.4% annual rate
• Short term markets have been running ahead of Fed rhetoric, though FOMC members are clearly leaning towards possible cuts
• Dot plot accompanying today’s FOMC is net dovish relative to September, though dispersion of rate expectations is very wide

The Federal Reserve Open Market Committee left its target for overnight interest rates unchanged at a range of 5.25% - 5.50%, their fourth unchanged decision after more than a year of unusually rapid hikes. December FOMCs always seem to bring to mind the 2018 meeting at which Fed Chair Jay Powell donned his Grinch hat, uttered the words “autopilot,” and tanked the financial markets just in time for the holidays. Powell probably remembers that experience and the subsequent walk back too well to repeat it again. More recently, Powell noted that the risks are roughly balanced for the Fed’s next move, and financial markets took that statement as a cue to begin pricing in interest rate cuts in 2024—100 bps of them at present. We would caution against taking that pricing as gospel, and even Fed officials have highlighted that we’re a long way from cuts. But momentum-based trading programs are exaggerating the market-implied probabilities of rate cuts by bidding up short-term interest rate futures, and few are brave enough to fight back against that trend this close to year-end. A mid-year “normalization” rate cut is certainly possible, and today’s FOMC results would suggest several are coming.

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