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Thoughts on the Fed Rate Cut

by Garrett Kunz   ·  Aug 01, 2019  
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U.S. monetary policy has taken another U-Turn.

The Federal Reserve (Fed) announced a 25-basis point (0.25%) rate reduction July 31. As shown in the LPL Chart of the Day, The Federal Reserve’s First Rate Cut in 10 Years, the rate cut was the first since the 2008 Financial Crisis. The Fed also said it would end its asset sales on August 1, instead of in October, in order to align its balance sheet and rate policies.

Rate cuts have been a sobering reality in investors’ short-term memories, as the Fed resorted to a series of deep rate cuts to get the U.S. economy out of recession 10 years ago. In this case, the rate cut was different — a “mid-cycle adjustment,” as Fed Chair Jerome Powell explained in his post-meeting press conference. These rate exchanges, which we’ve referred to as “course corrections,” have been a feature of many economic cycles (outside of the previous one).

“This rate cut wasn’t warranted by weakness in economic data,” said LPL Research Chief Investment Strategist John Lynch. “However, a small rate cut here could provide a buffer if uncertainty continues to weigh on growth, reducing the chances of a policy mistake or a rush to cut rates before a recession.

U.S. and Global Outlook

Powell repeated his positive rhetoric on the U.S. economic outlook, going so far as to say he doesn’t see any economic sector posing a near-term threat to growth. He pointed out that consumer inflation was slowing, but added that the decision to lower rates was based on several factors, including slowing growth internationally and trade uncertainty.

The global economy is especially important to the fed’s case these days, as looser Fed policy could help weaken the U.S. dollar and counter the malaise we’ve seen in other currencies. The Fed is primarily concerned with the domestic economy, but policymakers must be aware of global risks because of the interconnected nature of economies.

Still, easing Fed policy could provide a needed boost to domestic economic confidence. The U.S. economy has struggled with declining corporate sentiment, a trend that we think has held economic growth back meaningfully this year. Powell mentioned that business investment could be aided by a Fed willing to be flexible with policy.

What’s Next?

It’s tough to see where rates go from here. Powell made it clear—maybe too clear, according to stocks—that the Fed’s intention isn’t to cut rates significantly at this juncture. Unfortunately, we didn’t get an updated “dot plot” (summary of policymakers’ rate projections) or economic forecasts at this meeting. We’ll look for those in September.

Based on the Fe’s reasoning and the bond market’s reaction, we wouldn’t be surprised to see another small “insurance” rate cut by the end of year.


IMPORTANT DISCLOSURES

Please see the Midyear Outlook 2019: FUNDAMENTAL: How to Focus on What Really Matters in the Markets for additional description and disclosure.

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This Research material was prepared by LPL Financial, LLC.

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