The S&P 500 rose to a new all-time high in early trading on Tuesday, Wall Street is on hold for a long awaited rate cut from the Fed this afternoon, the central bank’s first rate reduction since it embarked on an aggressive rate hike campaign in March 2022. The latest retail sales data suggested solid consumer health as sales rose 0.2% in August versus expectations for a decline of 0.2%.
sources: CNBC, WSJ, Bloomberg
Closing snapshot
source: ThinkOrSwim
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By the time you read this…
We still won’t know know what the Fed decided. Until a couple of days ago, the odds of a 25 or 50 basis point rate cut were basically a coin toss. As decision time approaches, the probabilities have begun to favor starting the Fed’s rate cut campaign with a 50 basis point reduction. Former NY Fed president Bill Dudley wrote that a bigger move will make it easier for the Fed to align its projections with current market expectations, rather than delivering a surprise not warranted by the economic outlook.
Claudia Sahm, economist and inventor of the Sahm rule believes the Fed should start its easing cycle with a 50 basis point cut for two reasons. The first is that inflation has moved back close to its target while the fed funds rate remains elevated. In her words, “progress on inflation alone justifies the start of the Fed’s easing cycle and gets us the first 25 basis points…since the July FOMC meeting they have received two more months that add to inflation data at or below target (green bars).”
For August, core PCE inflation on a year-over-year basis is 2.7%, while that’s still high, it’s half its peak in 2022. At the same time, “the fed funds rate remains at its peak of 5.3%, more than three times it’s pre-pandemic level.” In other words, the restrictive nature of the fed funds rate has not adjusted for the drop in inflation.
So, while there’s still some risks, the inflation data alone suggests the Fed is justified in cutting rates. According to Sahm, even if the labor market was strong, progress on the inflation front makes the case for a 25 basis point cut.
The second part of Sahm’s case for an initial 50 basis point cut has do do with disappointing labor market data; weak data since the July FOMC meeting “should add another 25 basis points to the cut.” Sahm points out that her argument is one of recalibrations and “does not rest on the risk of recession, though that could be an alternative path to 50.”
Sahm addresses the fact that the seven weeks between the July and September FOMC meetings offered more labor market information than usual, including two unemployment reports and an preliminary estimate of the annual payroll revision. These updates weren’t great. The three-month average payrolls through August now stand at 116,000. That’s a notable shift from past data and is now below the pre-pandemic pace.
In a nutshell, the data suggest that the funds rate has pushed the labor market away from maximum employment, even as “disinflation is underway”, so adding 25 more basis points to Wednesday’s cut would help recalibrate the restrictiveness.
According to Bloomberg’s John Authers, there’s one reason the Fed may not want to move too aggressively on rates, the yen carry trade. The past two months have provoked a great deal of anxiety for traders who have been borrowing in low-yielding currencies and investing in assets where it can earn more. For years, the BoJ’s near-zero interest rates had made the yen a safe place for these investors, but the past few months have demonstrated the risks of this trade.
The BoJ has increased its interest rate and warned of more tightening. After a decade of unchanged rates, two hikes in almost five months really left a mark. The sudden rise in cost of the yen ate into the profits on which yen carry investors were counting. Since late May, Bloomberg’s peso-yen carry trade index has slipped by almost 20%.
The drop in the carry index coincided with the brief equities sell-off and hasn’t rebounded. Whether the carry trade has “further to unwind depends more on the FOMC than the BoJ.” A cut in the funds rate would weigh on the dollar and prop up the yen. If a 25 basis point cut would cause some damage to this trade, a 50 basis point cut could do some significant damage, especially when the BoJ is widely expected to increase rates again by the end of the year.
source: Bloomberg
Deutsche Bank doesn’t want to be out done
The German bank is said to be exploring options to make it more difficult for UniCredit to buy Commerzbank as it considers how, or whether, to react to a possible deal that would create a huge competitor in its home market. DB is reportedly considering strategies including buying all or part of the German government’s 12% stake in Commerzbank. The combination of UniCredit and Commerzbank would create a European giant that would rank ahead of Deutsche Bank in terms of German revenue and total assets.
sources: Bloomberg, WSJ, CNBC
“Necessity never made a good bargain. ” – Benjamin Franklin
Vegas to Cali in nothing flat
For nearly two decades, there’s been a plan in the works for a high-speed rail line connecting Las Vegas to southern California. but there always seemed to be an impediment to the project, everything from bureaucratic red tape to skyrocketing budgets. The dream of connecting two of the countries largest entertainment centers remained a dream, with nothing ever being built. Finally though, shovels are in the ground on the $12 billion Brightline West project, but don’t book your tickets yet, there’s a twist. No U.S. company is currently building trains that meet the project’s high-speed requirements and to qualify for billions of dollars under a new infrastructure law, the train must be made in America. Oops.
sources: Bloomberg, WSJ,
Intel
Let’s get the bad news out of the way, Intel stock is still about 60% below its highest point over the last year but on the flip side, things may finally be looking up for the chipmaker. The company announced on Monday that it was awarded up to $3 billion by the Biden administration to build manufacturing for the U.S. defense industry, confirming expectations that have been going back a year but looked imperiled by recent events.
Intel also announced that it reached a “multibillion-dollar agreement” for Amazon’s cloud computing division to manufacture chips at Intel factories using an advanced chip-making technology expected to go into production next year. Additionally, Intel will make custom versions of its server chips for Amazon.
The company also announced it would further separate its chip-making and design operations as part of new measure to survive one of the worst crises in its five-decade history. Increasing the separation between the two operations will allow the manufacturing arm to get independent financing as well as relieving concerns about its independence.
What could possibly go wrong now?
sources: Bloomberg, WSJ, CNBC, X
In other news:
Amazon vows leaner teams to reduce bloat, orders RTO five days a week starting January 2, 2025.
Canada’s Prime Minister Justin Trudeau’s government will make 30-year mortgages available to all first-time buyers as buyers of newly built homes as he attempts to gain approval of younger Canadians.
Boeing announced that it is enacting a range of cost-cutting measures as it prepares for a drawn-out strike by workers, including a hiring freeze, haltling non-essential travel and cutting back on airshows. Some 33,000 workers voted overwhelmingly for the strike.
sources: WSJ, CNBC, Bloomberg, Forbes
The stinger
Disclaimer
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