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Midweek Update: Key Developments and Market Insights [18th September 2024]

Updated: Sep 23, 2024

Markets Await Fed’s Key Decision Amid Mixed Rate Cut Expectations


This week, all market attention will be on the Federal Reserve’s (Fed) first rate cut following more than a year of keeping interest rates at their highest levels in over twenty years. Recent critical data from the U.S. has not allowed markets to reach a consensus on the extent of rate cuts; expectations remain mixed. According to futures market data, the probability of a 50 basis point rate cut is priced at 65%, while expectations for a 25 basis point cut stand at 35%.


Just a week ago, expectations were in favor of a 25 basis point cut at 86%. Labor market data confirmed that the U.S. labor market is cooling, but some policymakers interpreted this as normalization. Meanwhile, inflation data has declined, driven by lower energy costs, though no significant easing has been observed in service prices. However, market participants assess that labor market risks outweigh inflation risks and believe the Fed will not allow further cooling in the labor market.


In addition to the Fed rate decision, the economic projections, which include forecasts for interest rates, unemployment, economic growth, and inflation, will also be released. These projections will cover the period from 2024 to 2027 and provide further insight into the future path of the U.S. economy. In June, the Fed projected a 4% unemployment rate for 2024, but it reached 4.2% in August. On the other hand, the Fed’s preferred inflation gauge, the personal consumption expenditures price index, came in at 2.5% in July, below the Fed’s 2.6% forecast. Therefore, the Fed will revise its economic forecasts for this year.


Markets continue to price in total rate cuts of over 100 basis points this year. Even if there isn’t a 50 basis point cut in September, many market participants expect at least one 50 basis point cut later in the year. Therefore, the dot plot included in the projections will reveal the Fed officials’ views on rate cuts and contribute to shaping expectations. Additionally, markets will closely follow Fed Chair Jerome Powell’s press conference for clues regarding the future policy path. Economists are divided over the guidance the Fed will provide regarding future cuts.


Approximately 44% of economists in a Bloomberg survey expect the possibility of more adjustments to be acknowledged. In comparison, 31% believe the Fed will more clearly express its intention to make a series of cuts and provide guidance on the extent of those cuts. Meanwhile, Tuesday’s U.S. retail sales data showed a 0.1% increase, contrary to the expected 0.2% decrease. Moreover, the retail sales control group, which is used to calculate gross domestic product, increased by 0.3%.


These figures indicate that household demand remains resilient despite the cooling in the labor market and wages. This report did not affect expectations for a 50 basis point cut, and the selling pressure on the U.S. dollar continues. However, if the Fed implements a 25 basis point cut and signals gradual easing, market pricing could reverse sharply.



Fed’s Rate Cut Speculation Pushes Gold to New All-Time High


With rising expectations for a 50 basis point Fed rate cut, U.S. Treasury yields continued to decline, and gold surged towards $2,590 per ounce, reaching an all-time high. The 2-year U.S. Treasury yields fell to 3.59%, their lowest levels since November 2022, while the benchmark 10-year yields were at 3.64%, the lowest since May 2023.


The markets have largely priced in expectation of a 50 basis point cut. Therefore, if the Fed decides on a 25 basis point cut, gold may face some short-term selling pressure. On the other hand, considering that major central banks worldwide have entered a policy easing cycle, this could support gold prices in the coming period.


A report by Goldman Sachs highlights that the missing piece of the two-year rally in gold prices has been gold ETFs. The report suggests that rate cuts could boost inflows into gold ETFs, providing a tailwind for gold prices. Global holdings in gold-backed ETFs remain about 25% below the peak levels recorded during the pandemic in 2020. As major central banks continue with rate cuts, inflows into gold-backed ETF holdings are expected to increase, driving gold prices toward $2,700 by 2025.


Meanwhile, political uncertainty stemming from the upcoming U.S. elections and ongoing geopolitical tensions in the Middle East continue to fuel safe-haven demand. The second assassination attempt on Republican candidate Donald Trump and the escalating tensions between Hezbollah and Israel have been additional major factors supporting the rise in gold prices.



Bank of England Expected to Hold Rates Steady After August Cut


Another major central bank expected to make an interest rate decision this week is the Bank of England (BoE). After cutting its policy rate by 25 basis points to 5% in August, the BoE is not expected to make any changes to interest rates at this meeting. However, following the latest inflation data, expectations for further rate cuts have increased. Markets are pricing in that the BoE will lower interest rates in both November and December.



PBoC Faces Pressure as China’s Economic Slowdown Deepens


Last week's data from China raised concerns about the Chinese economy. In August, China’s industrial production slowed to 4.5%, while retail sales grew by only 2.1%, falling short of expectations. The unemployment rate rose to 5.3%, the highest in six months. Such a slowdown in the world’s second-largest economy darkens the growth outlook and fuels calls for more aggressive measures from the government. The series of rate cuts by the People's Bank of China (PBoC) in recent months has not been sufficient to stimulate the economy.


The PBoC recently announced that it would intensify its fight against deflation and prepare additional policies to revive the economy. In this context, the decisions made by the PBoC this week will be critical in shaping expectations for the Chinese economy. Economists expect the PBoC to lower interest rates and reduce the reserve requirement ratio.



Markets Focus on BoJ Communication as Rate Hike Expectations Remain Low


On the last day of the week, markets will be closely watching the decision of the Bank of Japan’s (BoJ) policy. Markets do not expect any rate adjustments at this meeting. However, following the criticism of BoJ’s communication after the July 31 rate hike and subsequent market turbulence, the messages delivered during this meeting will be critical.


All 53 economists surveyed by Bloomberg predict that the BoJ will leave its reference interest rate at 0.25%. However, around 70% of the participants indicated that December is the most likely month for the next rate hike. Swap markets show that the possibility of another rate hike this year is priced at only one-third. This reveals the markets' reluctance to accept BoJ’s signals.


Thus, after the criticism regarding the turmoil following the last meeting, Governor Ueda’s speech at the post-decision press conference will be critical. To convince the markets, Ueda will need to clearly outline BoJ's stance on its policy.


 

Note: The information provided is for educational and informational purposes only. It's crucial to understand and evaluate the risks before making any investment decisions.

 

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