WHEN IS A DOVE IN CAMOUFLAGE?

Yesterday, as expected by nearly anyone paying attention, the Fed left the Federal Funds rate unchanged. This is the second time this group opted to make no change. As I have written many times, we take the Federal Reserve at their word; That they remain data dependent. As inflation is not coming down and the employment market becomes a bit creakier, the Fed played little offense by not making a change. As with any Fed pronouncement, the devil is in the details, or in this case the statement. As has been noted well in the financial press, Chairman Powell said at the press conference that the current uptick in inflation may be caused by tariffs, but this could be a transitory situation. As Yogi Berra once said, “it’s Deja vu all over again!” The last time the Fed said inflation was transitory they missed by a wide margin.

After a strong pop in stocks yesterday, because the message was deemed to be “dovish,” stocks are trading up again this morning and bonds continue to rally with the 10-year Treasury note around 4.2%^[1]. One of the things I try to teach our younger analysts is to understand the tenor of the financial news. Sometimes, good news is good news, or good news can be bad news. Other times news is just news. Yesterday the stock market rallied because the Fed seemed to be closer to a rate cut. Yay stocks! This morning, the markets seem to be coming to grips that the dove may actually be…a chicken! I am being facetious, but the Fed is looking at the slowing momentum in the labor market and other indicators that point to a potential need to cut rates later this year. Many prognosticators believe that we will see as many as two cuts during this calendar year.

The joy of the finance world is that there is a tremendous amount of economic statistics to consume and decipher. As our economy is 65-70% driven by consumer spending, I tend to focus on consumer-based statistics including inflation, employment, under employment, the labor participation rate and consumer spending. I am also an adherent to behavioral finance and believe people will spend and consume based on their actual financial situation as well as their perceived financial situation. What I mean by this is that even an employed person may temper their true ability to spend if they see unemployment climbing because they may worry about their own employment situation. Multiply this by millions of people and the perception of economic headwinds can become a self-fulfilling prophecy. Recent credit card spending is showing some slowdown in consumer spending. We think this is a trend worth watching.

The dovish stance the Fed may be taking is likely camouflaging the concern they have about employment and spending, and less focused on the fact that the policy moves have contained inflation. Inflation may come down due to current economic slowing. Many believe it is absolutely true that the Fed will need to withdraw liquidity and increase the Federal Funds rate to slow the economy, thus reducing inflation. The issue for market participants is that rate cuts may be supporting a declining market and not a reason to party like it is the start of a new leg of a bull market.

More to come.

[1] Source: Bloomberg