One Month Doesn’t Make a Trend, the Rate Cut Outlook Is Still Intact

Last week proved to be a gut check for the stock market bulls…

Wall Street’s concerned about the rate cut outlook. Because it received two pieces of information that made traders and portfolio managers scratch their heads.

The first came on Thursday when Federal Reserve Chairman Jerome Powell threw investors a curveball. While he was delivering a speech about the economic outlook in Dallas, TX, he said the economy is strong enough that the central bank doesn’t need to be in a rush to cut interest rates.

Bond market speculators took that as a signal that the central bank’s policy intentions had changed. In their minds, the chances of lowering rates to 3.4% (like the Fed had endorsed in September) by the end of 2025 had faded. As you can see in the chart below, Wall Street now expects one less rate cut than it had predicted in October…

Then, on Friday, the New York Fed’s Empire State Manufacturing Survey for November was unexpectedly strong. The gauge shot up on the heels of stronger-than-expected new orders and a backlog drawdown. In the minds of portfolio managers and traders, that was a signal that economic growth was picking up.

However, Powell wasn’t trying to blow up the rate cut outlook like the financial media suggested. Instead, he was highlighting the economy’s return to normal, or more stable trends. And when we dig into the Empire numbers, we see a similar story unfolding.

In other words, one month’s data doesn’t make a trend. And, despite the dire warnings, our central bank is still focused on the bigger picture… interest rates that neither help nor hurt economic growth, not the current restrictive levels. That means it still intends to ease policy, supporting prolonged economic growth. The change will underpin a steady rally in the S&P 500 Index.

But don’t take my word for it, let’s look at what the data’s telling us…

As humans we tend to worry more about what can hurt us instead of what can help us. So, when an investment has worked out well, it’s easy to get nervous. If we’ve made a lot of money, we don’t want to lose it. Such is the current case with the S&P 500. The gauge is up almost 24% year to date, on the heels of a similar gain a year ago.

But there’s a bigger picture that many people miss when they look at those numbers. By stepping back and surveying the broader horizon, we notice the S&P 500 has averaged an 8.4% gain per year for the last three years. That’s below the 9.5% annual average since 1928. So, by that measure, one could argue stocks such be performing even better than they are currently.

Monetary policy and economic data aren’t much different. To understand them, we must look at both through a long-term lens and not what happened yesterday.

On Thursday, Powell was discussing the shifts in the economic outlook from the COVID pandemic to today. He was noting the huge shift from an environment of runaway inflation to one where prices appear to be more stable, and a labor supply compared to demand picture that has come into balance. He said the change has allowed for rates to drop as they no longer need to be restrictive.

The Fed chair noted the goal is to return borrowing costs to the “neutral” level, or one where they neither hurt nor help economic growth. And, as it gets closer to that point, Powell said our central bank can afford to take its time on adjusting policy further. Currently, most policymakers feel interest rates are still at a restrictive level, or one where they’re weighing on growth.

But it’s that one phrase that Wall Street focused on… “the Fed can afford to take it’s time.” They worried Powell was hedging his bets ahead of the December 18 policy statement.

And then there was the Empire data. The general business index number shot up on the heels of a rebound in new orders and a drawdown in the existing order book. However, the real story was in the other numbers that would affect Fed policy… employment and inflation.

According to manufacturers in the New York Fed’s district, they’re not eager to hire, despite a recent surge in new business. The new employee gauge had a reading of 0.9 compared to the 4.1 number in October. That was well below the peak of 26 set in November 2021 and in-line with the levels we’ve seen since the start of 2023…

And it’s a similar story for prices. According to those same businesses, prices received saw little change compared to the month prior. The index rose from 10.8 in October to 12.4 in November. Again, when we look at the numbers on a broader scope, it sticks with the trend of stability we’ve experienced since early 2023…

Both of these results point to stability in both prices and employment. Those are trends our central bank has sought as prerequisites for lowering interest rates. And, based on what these numbers are telling us, the conditions are still in place for borrowing costs to come down even more.

So, like I said at the start, it’s easy to get nervous when you’ve been riding a big winning streak. And monetizing some of those gains is never a bad idea. But if the data I’m seeing and policy comments I’m hearing are correct, the outlook hasn’t changed. Our economy is returning back to more normal, pre-pandemic trends. And, as a result, the Fed intends to follow the same course with interest rates. The change will continue to support a steady rally in the S&P 500.

Five Stories Moving the Market:

European markets are lagging behind Wall Street by a record margin after Donald Trump’s election victory pushed the region’s stocks lower and sent the euro tumbling – FT. (Why you should care – the pullback is likely to fuel reversion to the mean buying of European ETFs by momentum investors)

President-elect Donald Trump’s push for peace negotiations between Russia and Ukraine is finding growing acceptance among Ukraine’s European allies, who increasingly worry that time isn’t on Ukraine’s side in the war – WSJ. (Why you should care – a peace negotiation could place additional downward pressure on European inflation metrics, especially if Russia can sell energy resources to the rest of the world once more)

Federal Reserve Bank of Chicago President Austan Goolsbee signaled the U.S. central bank will likely end up cutting the policy rate by another quarter of a percentage point this year and a full percentage point further next year, as Fed policymakers projected in September – Reuters. (Why you should care – Goolsbee is set to be a policy voter next year and he favors more rate cuts)

The eurozone economy is set to grow a little more slowly than previously forecast next year, but even that downbeat projection could prove optimistic if exporters face higher U.S. tariffs, according to new forecasts from the European Union – WSJ. (Why you should care – such an outcome would support the case for additional rate cuts by the European Central Bank)

Federal Reserve Bank of Boston President Susan Collins said wouldn’t take a December rate cut off the table; she also reiterated the central bank isn’t on a preset path and so we'll have a look carefully at the data and see what make sense – Reuters. (Why you should care – Collins will be a policy voter next year and said monetary policy is still restrictive – aka room to cut)

Economic Calendar:

ECB’s Schnabel (Board Member) Speaks (8 a.m. Saturday)

New Zealand – PPI for 3Q ECB’s Nagel Speaks (3 a.m.)

ECB’s de Guindos (Vice President) Speaks (4:15 a.m.)

ECB’s Lane (Chief Economist) Speaks (9 a.m.)

Fed’s Goolsbee (Chicago) Speaks (10 a.m.)

U.S. - NAHB Housing Market Index for November (10 a.m.)

Treasury Auctions $81 Billion in 13-Week Bills (11:30 a.m.)

Treasury Auctions $72 Billion in 26-Week Bills (11:30 a.m.)

ECB’s Lagarde (President) Speaks (2:30 p.m.)