Weekly Musings – CME Fedwatch change for week to April 05, 2024

8 Apr 2024 , 09:51 AM

NO RUSH TO CUT RATES SAYS CHRIS WALLER

Among the various Fed governors, Christopher Waller and Michelle Bowman have traditionally veered towards a less dovish approach to raters. Waller, in his last speech had first raised the issue that there was rush to cut rates. In his latest speech last week, Waller reiterated his stance that the Fed was in no hurry to cut rates considering the macro picture. Interestingly, that was at cross purposes with Jerome Powell giving a virtual assurance that there would be 3 rate cuts in 2024. However, Waller offered detailed justification of why he was not in favour of rushing through with rate cuts at this juncture.

• Waller suggests that the so called continued progress towards 2% inflation has come in to question. For instance, the Q4-2023 GDP final estimate came in 20 bps higher at 3.40%. That is hardly conducive with a sharp fall in inflation, considering that US consumer inflation was still 120 bps short of the target of 2%.
• If GDP shows that the market was red hot, then the labour data gave a similar message. In February 2024 job gains had moved back up to 275,000, even as the PCE inflation jumped to 0.4% MOM. Even the yoy PCE inflation was higher and the consumer inflation for March 2024 is pegged to be about 20% higher at 3.4%.
• Waller’s view is that pressure on inflation comes predominantly from the energy basket, and that is one area the US economy does not have much control over. This is despite the fact that the US has been the largest producer of oil by a margin, but it still has limited influence on global oil supplies and prices.
• To be fair, Waller did not rule out rate cuts in 2024. His view is that the Fed must nip the optimism about 3 rate cuts and prepare the markets for few rate cuts in the next 2 years. The CME Fedwatch is already thinking in this direction, pegging FY24 rate cuts at 3 cuts with 50% probability of just 2 rate cuts.
• According to Waller, FOMC should ideally wait for further progress on inflation and not get carried by market enthusiasts. The strength of the US economy and resilience of labour market mean that the risk of waiting a little longer is lesser than the risk of cutting rates in a hurry and regretting it at leisure.
• One of the ironies has been that the consumer spending was expected to slow with higher rates; but that has not really happened. There is a perceptible moderation in goods spending in the second half of 2023. However, consumer spending on services like energy grew and offset the slowdown in consumer goods spending.

It is not surprising that Chris Waller still things it is too early to commit on rates. It is best to be ambiguous and stay as data driven as possible. For now, it looks like the first rate cuts in the US may only happen in July or after that.

RECAP – CME  FEDWATCH FOR THE WEEK ENDED MARCH 29, 2024

After the Fed statement in the week to March 22, 2024 and the PCE and GDP data in the week to March 29, 2024, CME Fedwatch became slightly less dovish. Let us look at the week ending March 29, 2024 and look at how the PCE inflation and the GDP data in the US had an impact on the CME Fedwatch expectations. This is data as of March 29, 2024.

Fed Meet	300-325	325-350	350-375	375-400	400-425	425-450	450-475	475-500	500-525	525-550
May-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	Nil	4.2%	95.8%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	2.6%	61.0%	36.4%
Jul-24	Nil	Nil	Nil	Nil	Nil	Nil	1.0%	25.5%	51.3%	22.1%
Sep-24	Nil	Nil	Nil	Nil	Nil	0.1%	3.5%	28.1%	48.4%	19.9%
Nov-24	Nil	Nil	Nil	Nil	Nil	0.7%	7.5%	31.4%	43.7%	16.6%
Dec-24	Nil	Nil	Nil	0.5%	5.4%	24.2%	40.0%	24.9%	5.0%	Nil
Jan-25	Nil	Nil	0.2%	2.5%	13.1%	30.7%	33.8%	16.7%	3.0%	Nil
Mar-25	Nil	0.1%	1.5%	8.7%	23.4%	32.5%	23.8%	8.7%	1.2%	Nil
Apr-25	0.1%	0.7%	4.5%	14.8%	27.2%	28.9%	17.5%	5.6%	0.7%	Nil
Jun-25	0.4%	2.7%	9.8%	21.2%	28.1%	23.0%	11.4%	3.1%	0.4%	Nil

Data source: CME Fedwatch

There were 3 critical triggers in the week to March 29, 2024 with reference to CME Fedwatch.

• The third and final estimate of US Q4 GDP actually came in better than expected at 3.4%. That is 20 bps better than the second estimate. More importantly, this surge was driven by nominal GDP growth. That kind of robust GDP growth is not consistent with lower inflation and may not offer the recipe for a rate cut yet.
• If GDP was an indication, the affirmation came from the PCE inflation data. The PCE inflation number for February 2024 came in 10 bps higher at 2.5%. While food and core inflation were 10 bps lower over last month, pressure came from energy inflation; largely outside the control of US policymakers. This could make the Fed cautious about cutting rates too quickly.
• During the week. Christopher Waller continued to reiterate that it was too early to cut rates and the Fed should take more time and visit more data points. Like his previous speech, Waller thinks there was no hurry to cut rates. Interestingly, Powell hinted he wanted to avoid disruptive quantitative tightening, but rate cut talk was avoided.

Let us now turn to the key triggers for the CME Fedwatch in the latest week to April 05, 2024.

CME FEDWATCH IN LATEST WEEK TO APRIL 05, 2024

The latest week to April 05, 2024 saw the CME Fedwatch continue to stay relatively more hawkish than the pronouncements of the Fed. The week was relatively light on fresh data flows. The table below captures Fed Futures probabilities over next 10 FOMC meetings. The expectation is a maximum of 75 bps rate cut by December 2024. The CME Fedwatch is now veering towards the possibility that the Fed may stop at just about 50 bps rate cut in 2024.

Fed Meet	300-325	325-350	350-375	375-400	400-425	425-450	450-475	475-500	500-525	525-550
May-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	Nil	4.8%	95.2%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	2.4%	50.8%	46.8%
Jul-24	Nil	Nil	Nil	Nil	Nil	Nil	1.0%	22.4%	49.1%	27.4%
Sep-24	Nil	Nil	Nil	Nil	Nil	0.7%	15.1%	40.1%	34.8%	9.3%
Nov-24	Nil	Nil	Nil	Nil	0.2%	5.6%	23.7%	38.3%	26.0%	6.1%
Dec-24	Nil	Nil	Nil	0.1%	3.8%	17.5%	33.2%	30.3%	13.0%	2.1%
Jan-25	Nil	Nil	0.1%	1.7%	9.5%	24.1%	32.0%	23.0%	8.4%	1.2%
Mar-25	Nil	Nil	0.9%	5.8%	17.2%	28.3%	27.2%	15.3%	4.6%	0.6%
Apr-25	Nil	0.4%	2.7%	10.1%	21.3%	27.9%	22.8%	11.3%	3.1%	0.4%
Jun-25	0.2%	1.5%	6.2%	15.5%	24.5%	25.4%	17.3%	7.4%	1.8%	0.2%

Data source: CME Fedwatch

There are 3 critical triggers to watch out for in the coming week to April 05, 2024 with reference to CME Fedwatch.

• The big news in the week was the sharp upgrade in the Atlanta Fed GDP estimates for Q12024 GDP growth. Till last week, it was hovering between 2.1% and 2.3%. In the latest week, the Atlanta Fed has raised its estimate of Q1GDP growth to 2.8%. That is going to make rate cuts much more difficult for the Fed.
• Fed speeches by Cook and Bowman continued to reiterate on the need to be data driven. Clearly, even as Jerome Powell has been trying to please the markets, the enthusiasm is not shared by the other members of the FOMC. The general view is that it is best to wait and watch till labour, growth and inflation stabilize in the US.
• API crude inventories were expected to fall by 2.000 Million barrels for the week, but instead ended up lower by 2.286 Million barrels. This is likely to put pressure on oil prices as the US is seeing a drawdown on inventories showing robust demand even in the midst of record oil output by the US.

Let us finally turn to the major triggers to watch out for in the CME Fedwatch in the coming week to April 12, 2024.

TRIGGERS FOR CME FEDWATCH: NEXT WEEK TO APRIL 12, 2024

There are 4 critical triggers to watch out for in the coming week to April 12, 2024 with reference to CME Fedwatch.

• The big data point is the consumer inflation, which sets the tone for PCE inflation, the number that the Fed considers for its rate decision. The consumer inflation is expected to spike by 20 bps from 3.2% to 3.4% for this month. That means it would now be a full 140 bps away from the target rate of 2%. Clearly, the last mile is proving to be a lot tougher than the US Fed would have originally imagined.
• FOMC minutes of the last Fed meeting in March 2024 will be published in the coming week. It will put out in detail the dot plot charts and the detailed discussions of the members of FOMC. Most of the members are still veering towards going slow on the rate cuts. The general feeling is that there is no hurry to cut raters when inflation is still away from the target and the macros are still quite encouraging.
• The market will be looking out for the OPEC monthly report combined with the ongoing stand-off between Iran and Israel in West Asia. Any worsening of the conflict can have larger consequences for the global oil market. Brent crude is already at above $91/bbl and that is likely to make the markets jittery as it indicates higher energy inflation.
• Among the Fed members, Neil Kashkari is expected to speak this week. His speech assumes significance as he normally veers towards a greater market orientation. The markets would be keen to know which side Neil Kashkari stands on. In his recent pronouncements, even Kashkari has been cautious about rushing into rate cuts.

Let us finally turn to how the CME Fedwatch has not only converged with the Fed viewpoint, but has also become sharply less dovish.

CME FEDWATCH GETS LESS DOVISH POST US DATA FLOWS

The last 3 weeks have been a see-saw. In the week to March 15, 2022, the higher consumer inflation resulted in hawkishness. However, that was offset by the dovish language adopted by Jerome Powell in the Fed statement in the subsequent week. In the last week to March 2024, the PCE inflation came in 10 bps higher while the GDP growth for Q4 came in at a robust 3.4% based on final estimates. This kind of data is surely not in sync with any rate cuts looking likely. Fed  may not press the button on rate cuts, when GDP is so robust?

• The story repeats on the upside. Now, there is consensus between the Fed and the CME Fedwatch that rates have peaked at 5.25%-5.50%. That is something CME Fedwatch has been hinting for some time and now even Fed statements appear to concur with this view. Fed may possibly choose to hold rates higher for longer; but rate hikes look unlikely in this cycle.
• On the downside, CME Fedwatch has gradually aligned itself with the Fed viewpoint, but the CME Fedwatch actually is starting to look less dovish than the Fed. In recent weeks, the CME Fedwatch has persisted with its view that there was a 50% probability of 2 rate cuts and 50% probability of 3 rate cuts in 2024. It has also reduced its estimates from 7 rate cuts by end of 2025 to 5 rate cuts by end of 2025.

What did we decipher from the language of the Fed and the subtle shifts rate cut probabilities assigned by the CME Fedwatch? Fed has underscored that last mile inflation could be tough; and they appear to be bang on target. The Fed chair may have been a little premature in assuring 3 rate cuts in 2024. The speeches this week appear to indicate that the Fed is in no rush to cut rates. That is not what the markets wanted to hear.