Good Thursday AM,

Today is the day after or maybe the day in between as we have the jobs report tomorrow.

Yesterday the Fed kept rates steady, talked about the next move being a rate cut but would not commit on when. The Bond Market still cheered the news and bonds improved. Basically, calling out the Fed that they won’t be able to wait too long to cut and if they don’t cut 25bps in March, they are likely to cut 50bps in May. This is where it is difficult. I think that the bond market has a way of getting ahead of itself and they may be doing that again now. Equities saw it another way and did not like what the Fed had to say one bit.

Equities are recovering a bit today and bonds are still improving.

The data today was a bit mixed, higher unemployment claims is a help, non-farm production index and construction spending both came in hotter and that hurts a bit. None the less, today is a break in the action before tomorrow’s Jobs report. Let me remind that this is the biggest report of the month. The market is looking for 175k new jobs. Anything more than that will hurt rates. I would not recommend floating into any big data event.

I am including a few pieces below on how markets heard the Fed. I would love any feedback on how you heard it.

1) Traders are still coming to terms the Federal Reserve’s latest policy announcement, which saw the central bank signal a willingness to cut rates but appear to dash hopes of a move in March. Chair Jerome Powell acknowledged the dramatic inflation progress seen in recent months, but repeatedly emphasized the need to see “more” data confirming that downward trend. Officials also dropped their previous assertion that a rate hike was possible and instead adopted a more even-handed assessment of the future policy path.

2) The FOMC decision yesterday was interesting. In fact, it’s hard to summarize it in one word like “hawkish” so I’m going to write a few bullet points of things that stood out to me. First, the text of the announcement itself at 2PM did read hawkish. It made clear that the committee is not ready to declare victory just yet. It wants to see more data that confirm inflation is heading back to target before commencing a rate cut cycle.

• Then when Powell started talking, his characterization of the economic data seemed hawkish. So for example, he emphasized that on a year-over-year basis, core PCE was down to 2.9%. But in theory he could have chosen to say that 6-month annualized core PCE is running below 2%. So he took the wider, more conservative lens. Same with the labor market. He mentioned that over the last year, we’ve seen improvement in the Labor Force Participation Rate (and he specifically mentioned prime-age LFPR). But he could have, theoretically, talked about the backsliding on this front from the last Jobs report. He also continues to emphasize job openings, relative to the pool of unemployed workers. But he could have talked about the quit rate staying at pre-Covid levels. So he chose the hawkish frame for each point.
• But then in response to a question from the NYT’s Jeanna Smialek he seemed to offer a more dovish spin. He said the Fed doesn’t need to see improvement in the data. All the Fed needs to see is more data of the type that we’ve been seeing in recent months. So more, not better. Stocks rallied at that point to their highs of the day.
• So at this point, it seemed like the way to frame the conversation was not hawkish, but rather conservative. It’s more about caution, rather than feeling the need to apply more pressure to get inflation down.
• He also said he had no desire to see a weaker labor market or slower growth. So he clearly believes in the theoretical possibility of a soft landing where we have a robust job market, and fast GDP, with inflation at target. Believing in the possibility of this combo of factors is a necessary precondition to achieving it.
• Another dovish aspect of the speech is that Powell seems to believe there’s more juice yet to come, at least possibly, from supply chain healing. You don’t hear people talking about supply chain healing that much these days. To the extent that that was ever a big part of the story, most people have moved on. And yet Powell thinks there’s still something there.
• Ok, so it seems plausible that the Fed just wants to see another CPI report, and also the next set of inflation revisions, which is something that Waller called out in a recent speech. But then seemingly out of nowhere, Powell made it clear that a March rate cut should not be seen as the base case. This was much more specific than it seemed like he was going to get earlier in the presser, and it was surprising to see such a specific claim come 30 minutes plus into the whole thing. That helped send stocks to their lowest level of the day.
• Something else interesting was that near the end, Powell was asked about how the Fed uses anecdotes and chats with the private sector to inform their thinking. And here Powell said that of late, their sense is that the economy is re-accelerating a little bit, which is different from the rash of layoff headlines that have been in the news lately.
• Anyway! A very interesting day. And a costly one for the consensus view that the Fed would be formally opening the door to the rate cut cycle. It’s probably coming this year, but we still have to wait a little while.

One big wrinkle for Fed Chair Jerome Powell and his colleagues: the glare of election-year politics. Fed officials insist politics won’t influence their decisions. That hasn’t stopped politicians or outside analysts from surmising that the election might nonetheless at least affect the timing of a cut.

WSJ‘s look at the pure economics: The Fed raised its target rate to 5.25% to 5.5% in July, held it there yesterday and suggested it might not cut until May. But the rationale behind 5%-plus rates is no longer operative: The Fed doesn’t have to push inflation down; it merely needs to keep it from going up. This can be achieved without weakening the economy or really high rates. And yet adjusted for inflation, “real” rates today are higher than in July.

Please stay safe and healthy, and make today great!