The Federal Reserve’s recent decision to cut interest rates by 25 basis points, reducing the federal funds rate to a range of 4.5% to 4.75%, has sparked both caution and interest across investment circles.
This second rate cut in 2024, following an earlier and heftier 50-basis-point reduction in September, reflects the Fed’s ongoing balancing act in response to mixed economic signals. According to Richard Flax, chief investment officer at European digital wealth manager Moneyfarm, the Fed’s approach is “cautious”, as officials are keeping a close eye on labour market trends and the implications of President-elect Trump’s economic proposals. “With President-elect Trump signalling a new economic direction, including tariffs that could stoke inflation, the Fed will likely proceed cautiously until there’s greater clarity on policy,” Flax added, highlighting that this rate decision came unanimously, a shift given previous dissent from Fed Governor Michelle Bowman during September’s larger rate cut. The consensus indicates a more unified approach within the Federal Open Market Committee (FOMC) as it responds to both inflationary pressures and labour market dynamics.
After today’s FOMC meeting, Dan Siluk, head of global short duration & liquidity at Janus Henderson Investors, highlighted a key shift in the Fed’s language on inflation expectations—the removal of language expressing “greater confidence” in inflation reaching the 2% target. The change in tone, he implied, reflects a shift toward a more tempered outlook on inflation as the Fed weighs economic uncertainties. This adjustment, he said, “could reflect a more cautious or tempered optimism regarding the trajectory of inflation towards the Fed’s 2% target.”
Siluk emphasised that while the Fed acknowledges progress toward its inflation goals, it appears hesitant to convey an overly optimistic view. This caution, he noted, aligns with an economic landscape influenced by fiscal uncertainties, likely stemming from potential policy shifts on the horizon. “The removal of the phrase might indicate that the Committee wants to avoid signalling an overly confident stance on inflation, especially in the context of an uncertain fiscal path,” he explained, hinting at the Fed’s awareness of factors beyond its immediate control that could influence inflationary pressures.
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The Fed’s choice to hold back from asserting “greater confidence” may also be a strategic nod to flexibility. “By removing the assertion of gaining ‘greater confidence,’ the Fed may also be signalling its readiness to respond flexibly to incoming data,” Siluk suggested, pointing to a commitment to a data-driven approach over rigid policy commitments. “To some observers, the omission of this statement could suggest that the Committee’s confidence in inflation moving sustainably toward the 2% target has waned,” he added.
Jean Boivin, head of the BlackRock Investment Institute, echoed this cautious sentiment, suggesting that the Fed’s current approach allows for adaptive measures depending on how inflation and economic conditions evolve. Boivin commented on the Fed’s “meeting-by-meeting” strategy, noting, “Fed Chair Powell reiterated the Fed’s meeting-by-meeting approach, stating that the destination of policy rates – and the pace of cuts to get there – is not yet decided.” He added that Fed Chair Jerome Powell refrained from commenting on potential economic impacts stemming from the policy agenda of President-elect Trump, highlighting that any adjustments will wait until specific policy actions materialise. “We believe structural forces are at play that can help explain this unusual macro environment, including geopolitical fragmentation and ageing workforces and do not think this is a typical business cycle. The unwind of pandemic-era supply shocks and a temporary rise in immigration explain much of inflation’s cooling, in our view. We think recent market volatility has been partly driven by markets viewing structural changes through the lens of a typical business cycle,” said Boivin.
The recent moderation in labour market conditions has played a central role in the Fed’s decision-making, with Powell citing reduced urgency to prevent further weakness. Robert Tipp, chief investment strategist at PGIM Fixed Income, and Tom Porcelli, chief US economist at PGIM, observed that despite a strong September payroll report, broader indicators suggest a slowdown. “We continue to see signs of further moderation across the Conference Board’s Labor Differential, quit and hiring rates, the Fed’s Beige Book, and small business hiring,” they stated, adding that this softer labour environment aligns with the Fed’s path toward a “neutral” rate. Tipp and Porcelli also emphasised the Fed’s preference to maintain strength in the labour market while gradually lowering rates to avoid disruptive changes.
Despite uncertainties, Powell’s focus on maintaining economic stability has bolstered market confidence, particularly in fixed-income investments. The Fed’s commitment to its inflation target, combined with easing pressures in the labour market, suggests a path where further rate cuts could occur without major disruption. The firming of risk assets in response to the Fed’s easing policy, coupled with a partial recovery in long-term rates, illustrates the market’s relative confidence in the Fed’s current trajectory. This stabilisation has left bond markets at levels that may appeal to investors, particularly as long-term yields climb to pre-pandemic highs.
In the credit markets, spreads have tightened following the rate cut, reflecting strong demand for fixed-income assets and solid economic fundamentals. The bullish trend that began post-Covid, combined with limited downside risks for spreads, paints an optimistic outlook for credit markets in the near term. As Tipp and Porcelli noted, “fundamentals remain firm, as does net demand for fixed income,” which could mean that spreads will hold close to historic levels. This resilience suggests that credit markets are well-positioned to navigate intermittent volatility in the months to come.
“Despite uncertainty, yields are back to pre-Covid, pre-GFC levels, and with central banks likely past peak rates, the bull market from late 2022 looks set to continue,” they added.
