Hawks Eye FOMC Minutes

Minutes from September’s FOMC meeting may yet turn out a negative surprise for markets already expecting a hawkish “higher for longer” message on interest rates

• Markets are keen to parse the minutes from September’s pivotal FOMC monetary policy meeting.
• A hawkish tone signaling a “higher for longer” path for interest rates seems broadly expected.
• Stock markets may wobble if officials appear reluctant to begin sizable rate cuts by mid-2024.

Minutes from September’s meeting of the Federal Reserve’s policy steering Federal Open Market Committee (FOMC) will strike a hawkish tone.

That much seems clear after last month’s policy announcement marked a pivotal turning point for financial markets. Traders concluded that the U.S. central bank is probably done raising interest rates, but also that it intends to hold them near the cycle highs for longer than anticipated, delaying a much-hoped-for rate cut cycle.

The response from price action seemed telling. While near-term yields held steady, longer-term borrowing costs pushed higher. Swelling term premium in the Treasury bond market appears to have been a driving catalyst, speaking to rising uncertainty as investors worry about holding back stimulus at a time when the threat of global recession has become increasingly acute.

Are bond markets doing the Fed’s heavy lifting?

The quarterly update of the Summary of Economic Projections (SEP) released with the results of last month’s FOMC conclave highlighted the “higher for longer” bias with a pointed uplift of the 2024 forecast for the target Federal Funds rate. It was pushed up from 4.6% to 5.1%, implying 50 basis points (bps) less in rate cuts than officials flagged in June.

Now, the upshift in rates beyond the front end of the yield curve after the meeting seems to be doing the Fed’s job for it.

Looking beyond the three-month mark along the implied policy rate curve reveals a shift lower, not higher as might have seemed intuitive after a hawkish policy statement. This seems to imply that markets expect the Fed’s holdout in the first half of next year to demand a more substantial easing cycle thereafter.

Fed funds futures have shifted and now fully price in the first rate cut by June, a month sooner than before. They reflect a rate of 4.48% by the end of next year, down from 4.76% in the immediate aftermath of the Sept. 20 FOMC meeting. A rolling 12-month forward view reveals rates slipping below 5%.

Fed vs. inflation: the price of victory

One- and two-year inflation expectations priced into the swaps and bond markets respectively have tellingly dropped in tandem. This suggests that markets see rate cuts gaining momentum alongside easing inflationary pressure. That implies sufficient economic pain will have arrived next year to convince the central bank to declare “mission accomplished” in its fight against runaway price growth.

That might be wishful thinking.

The pain might well arrive—indeed, the latest round of purchasing managers index (PMI) data puts global growth at near-standstill already—but that may not break officials’ resolve to keep holding rates near the highs. For example, growth may slow but Fed Chair Jerome Powell and company could continue to insist that a still-elusive rise in the jobless rate is required.

With that in mind, traders will be eager to parse the FOMC minutes for further guidance. Stocks may wobble as yields and the dollar rise if they walk away with the sense that policymakers are reluctant to ease at the scale and along the timeline now priced into the markets.

Ilya Spivak, tastylive head of global macro, has 15 years of experience in trading strategy, and he specializes in identifying thematic moves in currencies, commodities, interest rates and equities. He hosts Macro Money and co-hosts Overtime, Monday-Thursday. @Ilyaspivak

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