Key takeaways from September FOMC decision

What happened?
The Fed decided to keep the fed funds rate at its current level. The language in the Fed’s announcement changed only slightly, around the current labor market situation.
Language went from job gains being characterized as “robust” in July to being described as having “slowed” but remaining “strong.”
However, the September Summary of Economy Projects (known as the SEP or ‘dot plot’) had some significant differences from the July dot plot. September dot plot takeaways:
- The current end of year projection for the fed funds rate is at the same level as the June SEP -- but that implies one more rate hike this year. What is far more concerning is the change in projections for the fed funds rate at the end of 2024. The June dot plot forecasted the fed funds rate to be 4.6% by end of 2024, implying 4 rate cuts. The September dot plot forecasts the median fed funds rate at the end of 2024 to be 5.1%, implying only two rate cuts in 2024.1 This is very high for longer, and not what markets were anticipating. Having said that, significant cuts are expected in 2025 and 2026.
- The core PCE projection has come down materially; the end of year forecast for core PCE was 3.9% in the June dot plot; now it's 3.7%.1
- Growth projections were revised upward significantly for 2023, from 1% in the June SEP to 2.1% in the September SEP. Growth was also revised upward for 2024, from 1.1% in June to 1.5% in the current dot plot.1
- Unemployment projections were downwardly revised very significantly. End of 2023 projections went from 4.1% in the June dot plot to 3.8%. A bigger change is projected for end of 2024, from 4.5% in June to 4.1% in the current dot plot.1
- The Fed still expects core inflation to reach 2.6% by the end of 2024. In addition, it expects core inflation to return to its 2% target by 2026.1
How have markets reacted?
There was a meaningful reaction in the bond market, with yields rising after the decision. The 2-year US Treasury yield hit the highest level since 2006. Stocks moved lower. US stocks came under pressure, especially large-cap technology stocks which tend to be more sensitive to higher rates.
What is our outlook on the situation?
The Fed is clearly more hawkish in this dot plot than the June dot plot. We theorize it has a lot to do with its expectation that the labor market is going to be tighter than it anticipated just a few months ago, as illustrated in the most recent Summary of Economic Projections.
The decision was unanimous this time but the final meetings of the year could see more dissension.
The dot plot shows a majority of members believe one more rate hike this year is appropriate but there is a significant number of FOMC members that believe no more hikes are needed. That means more policy uncertainty going forward, which in turn could mean more volatility.
All in all, this was a hawkish Fed pause. Now it's all about paying attention to key data going forward.
What is our resulting investment strategy?
We anticipate volatility in the near term, especially given the possibility of a government shutdown. However, we expect markets to soon begin to discount an economic recovery to occur later in 2024 after a somewhat bumpy but brief landing.
Once markets have clarity on the end of the Fed rate hike cycle and begin to discount a sustainable recovery, we would expect a growing global risk appetite.
We anticipate smaller-cap stocks and cyclical stocks will outperform. We also anticipate strong performance from investment grade credit and high yield bonds.
We would also expect international assets, especially emerging markets, to being to outperform US assets.
What are we watching out for? What are the risks to our view?
The risk is that the lagged effects of monetary policy cause a recession in the United States, especially if the Fed continues to hike rates, and especially if rates remain higher for longer. This could then cascade to other parts of the world. This environment would favor defensive investment positioning.
Footnotes
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1
Source: The Federal Reserve, as of September 20, 2023