The Fed announcement on Wednesday was about as positive as you could get for a period that came with no rate cut. That is because inflation data of late has been a touch too high and seemed to lower the odds that the Fed would stick to previous statements about 3 rate cuts this year.
Gladly the language was pretty clear that they still expect to cut relatively soon (most signs point to June). This gives plenty of time for 3 cuts on the year ending closer to the 4.6% estimate of Fed officials. With that, stocks bolted to new all time highs above 5,200 for the S&P 500 (SPY).
Let’s dig in a bit deeper on the ample evidence presented by the Fed...what it means for the future of rates...and what that foretells for our stock investment plans.
Market Commentary
Markets were flat going into 2pm ET Fed announcement on Wednesday. The immediate statement that they plan to stay on pace with 3 rate hikes this year got stocks on the upswing. Next came Powells press conference where more dovish language was shared.
As for the overall economy they now project +2.1% GDP growth for the rest of the year. Down from last year which they see as helpful in bringing inflation back down to target level...but no worries of recession.
The current rate is the likely peak for rates. So that means there is no reason to worry about raising rates (not that anyone was worried). Just a matter of when they are comfortable enough to start to lower them. Better to be too late than too early.
The dot plot from Fed officials points to an expected 4.6% rate at end of this year and 3.9% at end of 2025. That is very modest change next year and no doubt less accommodation than most investors expect to be true.
Here is one of the more interesting exchanges at the press conference. Powell was asked how to reconcile statements that they want inflation back towards 2% target...but they might start lowering rates BEFORE that happens. Thus, how can you reconcile those 2 statements?
Powell’s answer was very informative that there are lagged effects on rate policy. Since they are already in restrictive territory then the first rate cut would still leave high rates in place...just not as high...easing our way towards 2% inflation target.
I liken what he said to a car going 50 miles an hour coming into a red light up ahead. Very dangerous to slam on the brakes at the end. Better to start pumping the brakes at the earliest possible juncture to arrive at the stop light safely. That is how they can start lowering rates in phases even if not already at the desired 2% inflation target.
Another great question was whether there is enough time...and enough data to take place between now and the May 1st meeting to issue the first rate cut. Powell did well to essentially dodge that bullet with language about taking each meeting one at a time...and that they are data dependent etc.
Yet it wasn’t too difficult to see through his statements to appreciate that it is very unlikely for the first cuts to come in May. Not surprisingly the odds of that are now down to 6% when they were at 33% just a month ago.
The June 12th meeting continues to look like the most likely time with odds now at 74% likelihood. That is up from 60% just a week ago.
I previously gave this much lower odds of taking place given the typically conservative nature of the Fed. That includes statements about how they would rather be too late with rate cuts as opposed to too early.
But when you add the notion of 3 rate cuts this year with only 5 meetings from June til December....plus the notion that they are comfortable making the first cut before they have reached 2% inflation target...then yes, June is a very likely first spot to cut rates.
This would make it easy to alternate leaving rates steady at the next meeting followed by another quarter point cut...rinse and repeat into year end making 3 cuts in total and closer to 4.6% estimated by Fed officials.
Just as interesting there was also talk about slowing the pace of selling Fed assets (bonds). This is what we call Quantitative Tightening which was also part of the story to raise rates (because higher supply of bonds in public markets leads to higher rates to attract investors). So just like the rate cut decision, they would want to also slow Quantitative Tightening as a means to lower rates and be more accommodative.
All in all this was a clearly dovish meeting allowing stocks to break to new highs once again above 5,200. Plus Thursday we saw more of that upside unfold.
What was even more welcome than the gains to the large caps in the S&P 500 was broadening out of gains to smaller stocks. Like the +1.92% tally on Wednesday for the Russell 2000 (more than double the S&P 500 returns). This outperformance continued on Thursday as well.
It truly has been 4 years that large caps have beaten the returns of smaller stocks. This is NOT the norm as historically small caps have higher growth which begets correspondingly higher stock price gains.
It is high time that smaller stocks led the charge. That is the healthiest thing that could happen for the longevity of this bull market (instead of the Jenga style piling on top for the Magnificent 7...because that is unstable in the long run.)
Plus at this stage stocks the S&P 500 is pushing a fairly high PE of 21X forward earnings. That is a bit rich for a below trend earnings environment.
Once again, this points to it being time for a greater consideration towards value, which is more available in small and mid cap stocks.
Read on below for more details on my favorite stocks at this time...
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Steve Reitmeister…but everyone calls me Reity (pronounced “Righty”)
CEO, StockNews.com and Editor, Reitmeister Total Return
SPY shares were trading at $521.55 per share on Friday morning, down $0.65 (-0.12%). Year-to-date, SPY has gained 10.07%, versus a % rise in the benchmark S&P 500 index during the same period.
About the Author: Steve Reitmeister
Steve is better known to the StockNews audience as “Reity”. Not only is he the CEO of the firm, but he also shares his 40 years of investment experience in the Reitmeister Total Return portfolio. Learn more about Reity’s background, along with links to his most recent articles and stock picks.
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