Treasuries & Stocks Delivering Policy-Loosening Obviate Fed-Cuts

Authored by Ven Ram, Bloomberg cross-asset strategist,

Even though market pricing centered on an interest rate cut from the Federal Reserve as early as March has withered in recent days, traders are still assigning about a 50:50 chance of one. 

Should the meltup in stocks continue, the chance of a reduction will crumble to zero.

As demanding as Nasdaq’s valuations seemed toward the end of the week, technology stocks screamed higher to a new record on Friday. Meanwhile, 10-year inflation-adjusted Treasury yields are about 75 basis points lower than they were just three months ago. Little wonder that financial conditions are now near the loosest they have been since the Fed started to tighten policy in this cycle.

[ZH: The lagged effect of that massive loosening of financial conditions is about to send macro-economic data soaring…]

The exuberance around stocks seems to be reverberating through the Fed corridors, with a well-known dove pushing back against market pricing for an early pivot.

San Francisco Fed President Mary Daly cautioned Friday that it is premature to think that rate cuts are around the corner and that policymakers “don’t want to loosen policy too quickly, only to find that inflation gets stuck at way above target.”

We get a pulse check of the latter this week, with data on the Fed’s preferred core PCE forecast to show an uptick in December from a month earlier.

We also get a snapshot of how the US economy is faring: while gross domestic product is expected to have risen at a more moderate clip of 2% in the three months through December, it may still be above what the Fed sees as long-term trend growth of 1.8% – suggesting that the central bank’s cumulative policy tightening in this cycle isn’t strangling the economy.

[ZH: Simply put, the reflexive cycle of stronger stocks (on expectations of easier policy) driving financial conditions dramatically looser (doing The Fed’s job for it), remove the need for actual rate-cuts from The Fed… and remove the pillar that is supporting the buying-panic in stocks… and around we go.

Be careful what you wish for…]

The more the markets rejoice on the idea of an impending rate cut by engendering looser and looser financial conditions, the less is the chance that we get a reduction even in May – let alone in March. For, if the markets are already doing the job on behalf of the Fed, there is little incentive for the Fed to add fuel to fire and stoke inflation all over again.