4 key takeaways from the Fed meeting:
1. Powell has done a good job!
Powell managed to hold this FOMC meeting without cutting interest rates and disappointing the market's very dovish expectations (and Trump).
2. FOMC has downgraded the assessment of economic activity growth from “solid” to “moderate” and “uncertainties about this outlook have increased”
The question regarding the US economy (and other developed economies) is how long the service sector and employment can remain solid as (1) the manufacturing cycle deteriorates and (2) we are approaching the late phase of the cycle. Important quotes:
- “household spending appears to have picked up from earlier this year.”
- “indicators of business fixed investment have been soft”.
The G20 summit will take place this week, with possible new developments regarding the trade war. However, we need to keep in mind that the manufacturing sector is also being hurt by factors unrelated to trade tensions such as China’s efforts to reduce leverage in recent years.
3. The Fed is concerned about inflation.
The Fed is concerned about inflation.
Powell emphasised that market-based expectations have fallen and “are near the bottom of their historic range”. The Fed lowered its forecast for PCE inflation in 2019 to 1.5% from 1.8%.
4. The Fed suggests that the next move is a cut.
The Fed has discarded the “patient” rate approach. The Fed “will closely monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion”. The dot plot has shown a significant move in a dovish direction since March. Powell warned not to pay too much attention to the dot plot! It is just an input.
Our conviction: the market already wants more and is also putting the Fed in a corner! If market expectations are disappointed, it could in turn lead to price corrections in Corporate bond market as well as equity markets, thereby causing a deterioration in “financial conditions”. At the same time, the positive impact of a cut in interest rates on the US economy will be limited as (1) we are already late in the cycle (high level of corporate debt and high level of consumer debt and tight valuation of financial assets) and (2) the global growth environment is more risky.