Few things seem certain in life ahead of the U.S. presidential election results: death, taxes, and the Federal Reserve cutting interest rates on Thursday.
As the U.S. anxiously awaits results from one of the tightest presidential races in history — potentially too close to call by Thursday — this anticipated rate cut may offer a rare anchor for financial markets, providing traders with a moment of stability during what could be a highly volatile week.
In what's widely seen as a guaranteed move, the central bank is expected to reduce its benchmark rate by 0.25%, bringing it down to a range of 4.5%-4.75%. This move would set borrowing costs at their lowest levels since February 2023.
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Market-implied probabilities of a 0.25% cut point to a 97.4% chance, as per CME FedWatch, de facto almost fully pricing in the rate cut, which would be the second consecutive reduction from the Fed.
The Fed’s policy statement will be released Thursday at 2:00 p.m. ET, followed by chair Jerome Powell's closely watched press conference at 2:30 p.m., where investors will look for clues about the Fed's outlook on a further rate cut in the last meeting of the year.
Labor Market And Inflation Trends Drive Fed's Decision
“We expect the Fed to cut by 25bp in November, and Chair Powell’s message is likely to remain optimistic,” said Bank of America rates analyst Mark Cabana.
Cabana explained that October's softer-than-expected jobs report and downward revisions to payroll data for previous months are key factors that locked the November cut.
Bank of America indicates the recent labor data also significantly increases the odds of an additional rate cut in December.
Goldman Sachs economist David Mericle welcomed latest inflation developments and highlighted that while the October employment report was tepid, other data suggest resilience in the U.S. economy.
“Better inflation news has dampened the concerns about reacceleration or stickiness from the first few months of the year,” he said.
Mericle also highlighted the strong GDP growth in the third quarter, which may assuage fears of an overly softening labor market.
Goldman Sachs is forecasting four additional cuts in the first half of next year, which would bring the terminal rate down to a range of 3.25%-3.5%.
However, Mericle indicated that there's "more uncertainty about both the speed next year and the final destination," suggesting that future decisions will depend heavily on incoming economic data.
Potential Skip In December?
JPMorgan aligns with the consensus for a 25-basis-point cut in November, with the possibility of another in December if economic conditions remain stable. The bank, however, warns that labor market data will play an outsized role in shaping the Fed's future moves.
Analysts at the largest U.S. bank warned that if the unemployment rate falls below 4% in December, the Fed might consider skipping a rate cut in early 2024 — a possibility raised last by Atlanta Fed President Raphael Bostic.
Morgan Stanley expects the FOMC's statement to reflect an improved outlook on economic growth, while acknowledging progress on inflation. However, they caution that Powell is unlikely to commit to a specific pace for future rate cuts.
In short, the November rate cut is a near certainty during a period of anticipated political volatility, but beyond that, much remains in flux.
How Could Markets React?
The market-implied probability of another 0.25% rate cut at the Dec. 18 meeting currently stands at 77%.
If Fed chair Powell delivers dovish remarks that reinforce expectations for a December rate cut, investors can expect a boost in risk assets. In this scenario, the S&P 500 — represented by the SPDR S&P 500 ETF Trust SPY — is likely to react positively after the Fed meeting, provided that election-related uncertainties don't overshadow the market.
On the other hand, if Powell signals reluctance to cut rates again in December, it could disappoint investors and add fuel to market volatility, especially amid heightened political risks surrounding the election results.
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