By William Watts
Stock market bulls can be forgiven for wondering whether interest rate cuts really matter.
After all, investors had furiously entered 2024 with expectations that the Federal Reserve would deliver rate cuts of around six-quarters of a percentage point by the end of the year, starting in March. Those expectations have since been narrowed to around three rate cuts, according to the CME FedWatch tool. March, of course, came and went without cuts.
Stocks still rallied to a series of all-time highs, with the S&P 500 index posting a first-quarter gain of about 10%. On Friday, rate cut hopes took another hit after a spectacular March jobs report that saw 303,000 new jobs added to the economy and a drop in the unemployment rate to 3.8% from 3.9%. The probability of a cut in June now stands at just over 50%. Stocks duly recovered to end a down week on a bullish note.
This is a reminder that profits are always the focus when it comes to the stock market. A strong economy and resilient consumer speak to earnings growth expectations, helping fuel the stock market rally, market watchers reiterated after Friday's strong jobs data.
But investors also noted that the key test of rate expectations is likely to come on Wednesday, with the release of the March consumer price index. After a pair of stubbornly high readings in January and February, a further stagnation in inflation's downward trajectory coupled with positive employment data could cause investors to more significantly reconsider the 2024 rate cut prospects.
See also: Some good news about inflation? The Fed could achieve this with the CPI this week.
A further evaporation of rate cut expectations could be more problematic for stock bulls, Lauren Young, economist and chief investment strategist at New York Life Investments, said in a phone interview.
Young said that based on conversations with clients, floating rate borrowers are eagerly awaiting lower rates, hoping to refinance. If the rate cuts appear to disappear, they will face increasing challenges that will affect business decisions, including hiring.
"So the message we've been hearing from Main Street, so to speak, is that getting one or two rate cuts this year is actually a really important market signal," Young said.
Nancy Tengler, CEO and chief investment officer of Laffer Tengler Investments, sees room for stocks to continue their rally in 2024, but she doesn't expect the path forward to be dictated by how much cuts the Federal Reserve makes.
She sees strong echoes of the 1990s. Alan Greenspan, then chairman of the Federal Reserve, presided over a series of aggressive rate hikes in 1994 to curb inflation. Believing that productivity gains would drive noninflationary growth, he then cut rates three times in 1995 and kept them above 5% before making a modest increase in 1997 and then another increase more than a year later.
In other words, the Fed is likely to repeat a similar "higher for longer" playbook, Tengler told MarketWatch in a phone interview, allowing productivity gains, increasingly enhanced by advances in artificial intelligence, keep inflation low.
For its part, the Federal Reserve, or at least its chairman Jerome Powell, has been expressing its desire to cut, Tengler said. She believes that a cut will most likely occur. "Can they get three? I don't know, but as I've indicated, I don't really care," she said.
Inflation data, however, are a cause for concern. If strong CPI and producer price index readings cause the Federal Reserve to take a more hawkish tone, stocks could suffer, although Tengler said she would be eager to buy the dip.
Stocks ended last week on a strong note, posting strong gains in the wake of jobs data, but indexes still fell during the week. The Dow Jones Industrial Average DJIA saw a weekly decline of 2.3%, while the S&P 500 SPX lost 1% and the Nasdaq Composite COMP lost 0.8%.
-William Watts
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04-07-24 1201ET
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