Even staunch opponents of easing interest rate policy in the U.S. are now conceding. Among them is Torsten Slok, chief economist of private equity fund Apollo Global Management and a fervent supporter of the zero-cut stance.
«With inflation declining and the labour market weakening, we believe the Federal Reserve will reduce interest rates by 25 basis points in September,» Slok told Investment Officer. «The economy isn’t crashing, but it is slowing.»
Following a weak jobs report for July and increasing concerns of an economic downturn, the investor community is urging the Fed to take decisive action before it’s too late. This situation mirrors the period when Fed officials dismissed the 2021 inflation surge as «temporary» but eventually had to raise interest rates. The cohort of asset managers who do not anticipate interest rate cuts in 2024 is dwindling.
As recently as July, Slok underscored the potential risks of premature easing during a webinar. «We believe that smoother financial conditions will continue to offset the effects of interest rate hikes for at least the next few quarters,» he stated.
Powell
Federal Reserve Chairman Jerome Powell recently commented, «The general sentiment at the central bank is that the economy is approaching a point where it will be appropriate to reduce policy rates.» This straightforward message from the central banker was interpreted by the market as a clear indication of impending rate cuts. Consequently, 10-year rates plummeted to below 4 percent, the lowest in more than a year.
While the market briefly fully priced in the probability of a 50 basis point rate cut, the CME FedWatch tool now estimates this probability at 70 per cent.
Despite Slok’s belief that interest rates will fall, he asserts that the economy is not collapsing. With US GDP growth at 2.8 per cent in the second quarter, this remains too robust for a full downturn. «The current state of the economy can be described as slowing, but still heading towards a soft landing,» Slok explained.
‘No cuts were promised’
However, Slok remains cautious. «Powell did not promise any interest rate cuts. He said it might be considered at the September meeting, provided inflation continues to fall. Cutting rates while inflation is rising would be a mistake,» Slok emphasised.
Vanguard, traditionally the most conservative asset manager in this debate, is also leaning towards an interest rate cut in 2024. The fund house posits that «if there is to be an interest rate cut, it will likely occur in December,» says Roger Aliaga-Diaz, economist and head of portfolio construction at Vanguard. «We are teetering between no cuts and one cut. It is touch and go,» Aliaga-Diaz remarked to Barrons.
‘Extreme caution’
Speaking to Investment Officer, Giulio Renzi-Ricci, head of portfolio construction in Europe, noted the Fed’s delicate balancing act between cutting too early, which risks a resurgence of inflation, and cutting too late, which could harm the economy. «The real economy in the US has been extremely resilient so far, despite some weakening. The Fed will proceed with extreme caution regarding rate cuts,» he stated.
David Solomon, CEO of Goldman Sachs and a former advocate of zero interest rate cuts, has also revised his stance. Even before the Fed meeting, he admitted in an interview with CNBC that a rate cut is now plausible. «The economic landscape has shifted such that one or two cuts in the autumn are more likely,» he said. «There are evident changes in consumer behaviour, and the cumulative impact of prolonged inflationary pressure, although easing, is affecting consumer habits. It’s still too early to be certain about the direction of interest rates and policy.»
Many see interest rate cuts as a necessary step to keep the economy buoyant, or as investors put it, a «soft landing.» Investors betting on a rate cut feel encouraged by comments from several dovish Fed officials, who have hinted at a more accommodative stance in the near future.