Now We Have Fed Uncertainty?

• The Wall Street Journal – Nick Timiraos: The Fed’s Rate-Cut Dilemma: Start Big or Small? That the Fed will cut rates at its meeting next week is all but settled. But how much is shaping up to be a close call.Federal Reserve Chair Jerome Powell faces a difficult decision as the central bank prepares to cut interest rates next week: Start small or begin big?? The central bank is set to reduce rates for the first time since 2020 at its meeting on Sept. 17-18. Because officials have signaled greater confidence that they can make multiple rate cuts over the next several months, they are confronting questions over whether to cut by a traditional 0.25 percentage point or by a larger 0.5 point.

Normally, stories about Fed policy are supposed to create clarity. But yesterday’s stories, highlighted by Nick Timiraos’s submission above, created uncertainty.

As the chart below shows, minutes before Timiraos’s story was posted on The Wall Street Journal’s website, it seemed settled that the Fed would cut rates 25 basis points next week (September 18). The probability of a 50 basis point cut was just 14%.?

Following Timiraos’s story, the situation is now near 50/50, or the point of maximum uncertainty.

While it is not unusual for a Timiraos story to move market expectations within a week of an FOMC meeting, until yesterday, they were designed to reduce uncertainty, not create it.

Consider the days leading into the June 15, 2022 FOMC. Before the May 2022 CPI report was released on June 10, the market was settled that the Fed would hike 50 basis points.

In the wake of that hot CPI report, the probability of a 75 basis point hike rose to 35% - 45%, near the maximum uncertainty point of 50%.

Two days before the FOMC meeting, Timiraos provided clarity:

• The Wall Street Journal – (June 13, 2022) Nick Timiraos: Fed Likely to Consider 0.75-Percentage-Point Rate Rise This Week Officials had signaled plans to raise interest rates in half-point increments before the recent deterioration in data

As the chart below shows, the probability of a 75 basis point hike rocketed to 95%. Two days later, the Fed hiked 75 basis points to a range of 1.50% – 1.75%.

Likewise, on March 7, 2023, Silicon Valley Bank collapsed. As the chart below shows, in the days before this event, the probability of a 25 basis point hike was locked in at 100% (blue).

In the wake of this collapse, the probability of a 25 basis point hike plunged to 55% on March 15, one week before the March 22 FOMC meeting. Again, this was near the maximum uncertainty point of 50%.

A few days before this meeting, a Timiraos story clarified that the Fed would hike by 25 basis points:

• The Wall Street Journal – (March 20, 2024) Nick Timiraos: Federal Reserve Faces Tough Decision on Rate Increase Officials must balance inflation concerns with new worries about spillovers from banking turmoil

On March 23, the Fed hiked by 25 basis points.

Before yesterday’s Timiraos story, the situation was settled. The Fed was going to cut rates by 25 basis points, and the probability of a 50-basis-point cut was just 14%.

In the wake of the Timiraos story, the probability of a 50 basis point cut has moved to 47% (green chart above), just below the maximum uncertainty point of 50%. Restated, Timiraos created uncertainty.

Unless we get more stories to clarify this situation, we cannot find another time the odds of a hike or cut were 50/50 a few days before a meeting, going back to the 1990s.

This is due to the Fed’s bedrock principle of “forward guidance.” Tell traders what you will do before you do it.

Did Timiraos’s story wreck forward guidance? Was this the plan or an unintended consequence?

Gold, which thrives on uncertainty, especially monetary policy uncertainty, has increased more than 2% since the story was posted on the WSJ website yesterday (green).