Weekly Musings – CME Fedwatch change for week to February 09, 2024

11 Feb 2024 , 09:02 AM

FED SPEAK DODGES RATE CUT ISSUE

The disappointment for the CME Fedwatch began with the Fed policy statement announced on the last day of January. After the December minutes had disappointed the street, the January policy statement was expected to give some direction to the rate cut trajectory. However, the policy did not offer anything in the affirmative. Forget about offering a time table for the rate cuts, the Fed policy statement actually confined itself to warning about the likely inflation risks. The only indication that came from the Federal Reserve in the post policy statement was that the March rate cuts were ruled out based on data points. That Fed is normally quite careful about the message that its words and tone send out to the market and in this case, the Fed had almost asserted that March rate cuts would not happen. That left the markets with the only the choice of rate cuts either in the month of May or June 2024; and there was no reassurance on either.

IS IT ABOUT THE RED SEA SITUATION?

One can argue that the Red Sea crisis may have forced the Fed to be more circumspect, but some of the words were actually quite cautionary. For instance, the policy statement dwelt extensively on the geopolitical risks in the Middle East and West Asia, as well as the likely implications for fuel inflation. The Fed statement had also highlighted the risk that the last mile of inflation control was normally the toughest, hinting that markets may need more patience in this regard. But, the big disappointment for the markets was the Fed speak. Powell remained cautious and so did Michelle Bowman in their interactions post the policy. Both have veered towards hawkishness and hence it was not surprising. What actually surprised the market was that even an avowed dove like Neil Kashkari went on to give warnings and offer hints that rates could stay higher for much longer.

RECAP – CME  FEDWATCH FOR THE WEEK ENDED FEBRUARY 02, 2024

The week to February 02, 2024 saw when the Fed statement was announced  it sharpened the move of the CME Fedwatch towards the Fed view point. During this particular week, the rate cut expectations presumed in the CME Fedwatch came down from 175 bps to just 125 bps for calendar 2024. That was already lower than what the CME Fedwatch was expecting about a few weeks back. The first dampener to the CME Fedwatch expectations had come from the previous Fed minutes and the hawkish notes by the Fed governors. Now the Fed statement on January 31, 2024 had only underlined that the markets would have to be prepared for current rates for a longer period; at least till May or June 2024. 

The January Fed statement had clearly hinted that rate cuts were off in March and the first rate cuts would only happen around May or June 2024. That ambivalence had a sharp imprint on the CME Fedwatch reading of likely rate cuts in 2024. This is how the CME Fedwatch probabilities evolved in the week to February 02, 2024.

Fed Meet	300-325	325-350	350-375	375-400	400-425	425-450	450-475	475-500	500-525	525-550
Mar-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	Nil	19.5%	80.5%
May-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	12.4%	58.2%	29.4%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	11.2%	54.0%	32.1%	2.7%
Jul-24	Nil	Nil	Nil	Nil	Nil	9.3%	46.6%	35.9%	7.8%	0.5%
Sep-24	Nil	Nil	Nil	Nil	8.9%	44.7%	35.6%	9.7%	1.0%	Nil
Nov-24	Nil	Nil	Nil	5.7%	32.1%	38.8%	18.9%	4.1%	0.4%	Nil
Dec-24	Nil	Nil	4.5%	26.5%	37.6%	23.1%	7.1%	1.1%	0.1%	Nil

Data source: CME Fedwatch

There were 3 key triggers in the week to February 02, 2024 which had an influence on the CME Fedwatch. 

• The Fed policy and the post-policy statement by the Fed chair was issued on January 31, 2024. The markets were expecting a time table on rate cuts, especially the starting point. That was not forthcoming. Instead, the Fed went on to rule out rate cuts in March 2024; indirectly hinting that the first cut would only happen in May or June 2024. That left the market disappointed as it was obvious that the market would not be able to absorb more than 4 rate cuts in the year. Even the cautionary tone of the Fed members on the impact of the Red Sea crisis and the last mile challenges of inflation went on to dampen the spirits of the CME Fedwatch.

   

• During the week, the OPEC meeting was conducted via videoconference to decide upon quotas. It was already clear that amidst the Red Sea crisis, the OPEC would not tighten supply further. However, the OPEC held status quo on supplies and even commended the members on meeting quota cuts. It is not clear on the impact if more African nations decide to follow the example of Angola and exit membership of the OPEC.

   

• US GDP was a positive surprise in the week to February 02, 2024. The tone was set by the First Advance Estimate (FAE) of US GDP coming in around 120 bps higher at of 3.3% for Q4 2023. In another positive tone for growth, the Fed Atlanta projection for Q1-2024 GDP was also a positive surprise at 4.2%, which is 120 bps above the previous week estimate. All this happened with unemployment still benign at 3.7%. It was hard evidence of the fact that the US economy had well and truly avoided a hard landing.

Needless to say, the week to February 02, 2024 was dominated by the Fed statement, and that certainly disappointed the CME Fedwatch. 

CME FEDWATCH IN THE WEEK TO FEBRUARY 09, 2024

The recent week to February 09, 2024 did not have too many data points, with the focus on Fed Speak and other weekly projections. The table captures the Fed Futures probabilities over the next 10 meetings of the Federal Open Markets Committee (FOMC).

Fed Meet	300-325	325-350	350-375	375-400	400-425	425-450	450-475	475-500	500-525	525-550
Mar-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	Nil	16.0%	84.0%
May-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	8.5%	52.2%	39.3%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	6.8%	43.5%	41.9%	7.8%
Jul-24	Nil	Nil	Nil	Nil	Nil	5.5%	36.4%	42.2%	14.4%	1.5%
Sep-24	Nil	Nil	Nil	Nil	4.7%	32.%	41.4%	18.3%	3.3%	0.2%
Nov-24	Nil	Nil	Nil	2.7%	20.2%	37.4%	28.3%	9.8%	1.6%	0.1%
Dec-24	Nil	Nil	1.9%	14.9%	32.1%	31.1%	15.5%	4.1%	0.5%	Nil
Jan-25	Nil	1.2%	9.9%	25.5%	31.5%	21.4%	8.4%	1.9%	0.2%	Nil
Mar-25	0.5%	4.6%	16.1%	27.9%	27.5%	16.3%	5.9%	1.2%	0.1%	Nil
Apr-25	3.4%	11.8%	23.5%	27.6%	20.5%	9.7%	3.0%	0.5%	0.1%	Nil

Data source: CME Fedwatch

There are 4 data triggers to watch out for in the week to February 09, 2024 with reference to CME Fedwatch. 

• Fed chair Jerome Powell spoke last Sunday and that his message was quite clear that the last mile attack on inflation was going to much harder. Even Michelle Bowman continued to give a cautionary outlook. What actually surprised the street was that a known dove like Neil Kashkari (a long-time proponent of rate cuts) also give a rather hawkish outlook and warns of price risks amidst the Red Sea crisis. 

   

• The API weekly crude stocks were closely watched. Last week, oil stocks had depleted by -2.500 Million barrels. In the current week, an oil inventory accretion of 2.133 Million barrels was expected, but it ended with subdued 0.674 Million barrels only.

   

• Weekly estimate of Atlanta Fed GDP for Q1 had positively surprised last week at 4.2%. This week, the Q1=2024 GDP was expected to hold 4.2%, but it came in lower at 3.4%. Data is still volatile, but the sharp fall in consumer credit in the week could be a key factor driving lower growth expectations. For now, we have to await updates to the Q4-2023; second and final estimates expected in February and March 2024.

   

• The Fed balance sheet has gradually come down to $7.63 Trillion from a peak of $9.1 Trillion. However, this week there was no taper. While we await the final word from the Fed, it could be due to the evolving situation in the Red Sea.

The coming week will be largely focused on the US consumer inflation for January, where a sharper than expected fall in inflation looks an eminent possibility.

TRIGGERS FOR CME FEDWATCH IN COMING WEEK TO FEBRUARY 16, 2024

There are 3 critical triggers to watch out for in the coming week to February 09, 2024 with reference to CME Fedwatch. Most of them are Fed Speak and data related.

• The US consumer inflation will be announced on Tuesday, February 13, 2024. While core CPI is expected to be flat, the headline inflation is expected to be sharply lower by 40 bps at 2.9%, on the back of lower food and fuel prices. If that happens, then rate cuts in May look very likely; or the Fed may even surprise the street in March 2024 itself.

   

• The Federal budget deficit for January is expected to be announced on Monday. Currently, the street expectation is that it would narrow sharply from a deficit of $129 Billion to $39 Billion. Such a move could harden the dollar index (DXY).

   

• The industrial production growth in sequential terms and yoy terms will be announced next week. Both are expected to surprise on the upside; which makes the GDP story more sustainable. That will confirm that hard landing had been well and truly avoided.

   

• The week will also have its share of important views coming from the Fed governors like Waller, Bowman, and Kashkari. While a cautionary tone is still expected to be the name of the game; the CME Fedwatch will look for hints on the timing of the rate cuts.

The consumer inflation will be the big story in the coming week, but the real action could on oil prices, with the ceasefire falling apart. Most of the risks, next week, may be geopolitical.

CME FEDWATCH VS FED STANCE: GAP IS RAPIDLY REDUCING

During the previous week, the CME Fedwatch further cut its estimate of rate cuts from 175 bps in 2024 to just 100 bps in 2024. In fact, the CME Fedwatch is now giving a range of 100 bps rate cut to 125 bps rate cuts; with a higher probability for the former. There are 2 key takeaways in terms of the divergence between CME Fedwatch and the official Fed stance.

• On the upside, there appears to be a consensus between the Fed and the CME Fedwatch. Even the Fed is now almost agreeable that the rates had topped out around the current levels of 5.25%-5.50%; although it is yet to officially acknowledge the same. One thing is clear; more rate hikes can only happen under exceptional circumstances. Even in a tough scenario, Fed may choose to hold rates higher for longer rather than hiking rates. This is one area where the Fed and CME Fedwatch are in sync.

   

• The dichotomy is on the downside, but that dichotomy is rapidly reducing. The aggression of the CME Fedwatch is certainly toning down. The Fed had originally reconciled to 3 rate cuts in 2024 and 4 rate cuts in 2025, although it has been non-committal about the time table for rate cuts. The latest Fed statement generates more heat than light on the subject. For now, the gap between the CME Fedwatch expectation and the Fed stand is just about 25 bps. However, even that is a tough ask, if you consider that there are still not commitments coming from the Fed side. 

One thing is certain; the Fed will still be data driven and the CME Fedwatch will be constrained to eventually veer towards the Fed point of view. For now, Fed has a number of aces up its sleeve, but the market is ambivalent about the trajectory of rate cuts, if at all. Fed wanted to prove a point that; it will not allow market pressures to force its hand. That is something it has done. Fed has held price stability and full employment as sacrosanct in its policy approach over GDP growth. That is unlikely to change.