Weekly Musings – CME Fedwatch change for week to March 22, 2024

26 Mar 2024 , 07:31 AM

FED QUARTERLY MACRO UPDATE PACKS A POSITIVE PUNCH

When the Federal Open Markets Committee (FOMC) announced the March monetary policy, the status quo on rates was already factored. However, Jerome Powell positively surprised the street with his tacit assurance of 3 rate cuts in 2024, despite such rate cuts being back-ended. However, the real story of the US monetary policy was in the quarterly update to the macro projections for the next few years. Here is a quick dekko.

Marco Data Point	CY-2024	CY-2025	CY-2026	Longer run
Change in real GDP (Mar-24)	2.10	2.00	2.00	1.80
December projection	1.40	1.80	1.90	1.80
Unemployment rate (Mar-24)	4.00	4.10	4.00	4.10
December projection	4.10	4.10	4.10	4.10
PCE inflation (Mar-24)	2.40	2.20	2.00	2.00
December projection	2.40	2.10	2.00	2.00
Core PCE inflation (Mar-24)	2.60	2.20	2.00
December projection	2.40	2.20	2.00
Federal funds rate (Mar-24)	4.60	3.90	3.10	2.60
December projection	4.60	3.60	2.90	2.50

Data Source: US Federal Reserve (CY refers to calendar year)

Here  is what the CME Fedwatch read from the quarterly update of the macro projections on key data points. The undertone is surely positive.

• Compared to the December 2023 update, the March 2024 update has raised the full year GDP forecast for year 2024 by 70 bps to 2.10%. That is logical after 2023 GDP growth came in sharply higher than expected at 3.1%. While robust consumer demand was one factor in this GDP boost, the lower inflation assumption also helped the real GDP to put up a good show.
• What about the projections on unemployment for the coming years? For CY2024, the unemployment rate is expected at 4.0%. This is on the back of demand for jobs exceeding supply of jobs in the US market as labour market still remains tight. While this is still 50 bps above the full employment level, the unemployment level has grown much slower than anticipated amidst the Fed hawkishness.
• What about projections for PCE inflation? For CY2024, the PCE inflation is held static at 2.4%, but the CY2025 estimate for PCE inflation is being lowered by 20 bps from 2.2% and 2.0%. The PCE projections are being lowered by 20 bps for 2026 also. However, the projections do assume a spike in core PCE inflation due to the downstream effect of higher crude oil prices amidst the Red Sea crisis.
• Finally, what does this imply for the Fed benchmark rates? The expectation in December was that rate cuts would be rapid and front-ended. However, in since then the inflation has been sticky and that has forced the Fed to do a rethink on the pace of rate cuts. Fed is likely to cut rates thrice in 2024, thrice in 2025 (against original projection of four times) and twice in 2026. Fed rate are pegged higher at the end of 2025 and 2026.

To sum up, the message from the quarterly update of key macros for March 2024 is that GDP growth is likely higher, unemployment is projected lower and core PCE inflation is likely to see pressure. As a result, rate cuts will be slower than anticipated.

RECAP – CME  FEDWATCH FOR THE WEEK ENDED MARCH 15, 2024

After the Powell testimony in the week to March 08, 2024, the week to March 15 saw consumer inflation and inflation expectations being announced. While inflation expectations were stable, the consumer inflation for February had come in 10 bps higher at 3.20%. The CME Fedwatch had toned down its expectations to 3 rate cuts of 25 bps each in 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	2.0%	98.0%
May-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	0.1%	6.4%	93.6%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	0.1%	3.6%	55.2%	41.2%
Jul-24	Nil	Nil	Nil	Nil	Nil	Nil	1.7%	27.1%	48.8%	22.4%
Sep-24	Nil	Nil	Nil	Nil	Nil	1.2%	19.4%	42.3%	30.4%	6.7%
Nov-24	Nil	Nil	Nil	Nil	0.6	10.1%	30.7%	36.4%	18.8%	3.4%
Dec-24	Nil	Nil	Nil	0.4%	6.7%	23.3%	34.3%	25.1%	9.0%	1.2%
Jan-25	Nil	Nil	0.2%	3.6%	15.1%	28.9%	29.7%	16.9%	5.0%	0.6%
Mar-25	Nil	0.1%	2.0%	9.7%	22.4%	29.3%	23.0%	10.7%	2.7%	0.3%
Apr-25	Nil	1.0%	5.5%	15.4%	25.5%	26.4%	17.4%	7.0%	1.6%	0.2%

Data source: CME Fedwatch

There were 3 critical triggers to track in the week to March 15, 2024 with reference to CME Fedwatch.

• The big trigger of the week was the CPI inflation for February, which came in 10 bps higher at 3.20%. The villain of the piece was energy inflation. While food inflation was 40 bps lower and core inflation was 10 bps lower, it was energy inflation that bore the brunt of the supply bottlenecks created by the Red Sea crisis.
• Another important data point during that week was the Consumer inflation expectations announced on Monday. The expectation was at 3.0% and that is the number that it eventually turned out to be. This is thanks to the Fed sticking to its word on inflation.
• The OPEC monthly and IEA reports were released during the week. The mini recession in the UK and Japan was unlikely to meaningfully impact demand for oil. The oil market will remain undersupplied, pushing Brent prices possibly closer to $90/bbl.

Let us turn our attention to the key triggers for the CME Fedwatch in the latest week to March 22, 2024.

CME FEDWATCH IN THE WEEK TO MARCH 22, 2024

The latest week to March 22, 2024 was all about the Fed policy statement and the quarterly update to the macro projections. The table below captures the Fed Futures probabilities over the next 10 meetings of the FOMC at the end of the week. The expectation is a maximum of 75 bps rate cut by December 2024 and upto 125 bps by June 2025. The first rate cut is seen happening in the July policy or thereabouts.

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	12.4%	87.6%
Jun-24	Nil	Nil	Nil	Nil	Nil	Nil	Nil	8.9%	66.5%	24.5%
Jul-24	Nil	Nil	Nil	Nil	Nil	Nil	4.4%	37.5%	45.7%	12.7%
Sep-24	Nil	Nil	Nil	Nil	Nil	3.5%	30.2%	43.9%	19.7%	2.7%
Nov-24	Nil	Nil	Nil	Nil	1.7%	17.0%	37.2%	31.6%	11.1%	1.3%
Dec-24	Nil	Nil	Nil	1.2%	12.3%	31.0%	33.3%	17.4%	4.3%	0.4%
Jan-25	Nil	Nil	0.6%	6.9%	21.8%	32.2%	25.2%	10.7%	2.3%	0.2%
Mar-25	Nil	0.3%	4.1%	15.2%	27.6%	28.3%	17.2%	6.1%	1.1%	0.1%
Apr-25	0.1%	1.9%	8.8%	20.5%	27.9%	23.5%	12.5%	4.0%	0.7%	0.1%
Jun-25	1.2%	5.4%	14.7%	24.2%	25.7%	17.9%	8.1%	2.3%	0.4%	Nil

Data source: CME Fedwatch

There were 3 critical triggers to watch out for in the coming week to March 22, 2024 with reference to CME Fedwatch.

• The big trigger for the week was the FOMC policy statement on March 20, 2024. As expected, the Fed held rates at the range of 5.25% to 5.50% and that is what even the CME Fedwatch was indicating. However, the big positive was the Fed statement, wherein Jerome Powell clearly signalled that there would be 3 rate cuts in year 2024.
• Along with the Fed policy statement, the FOMC also put out the updated projections for the next 3 years; and the sustainable projections for the long term. While the GDP projections for 2024 were upped by 70 bps, unemployment was held static while the projection for core PCE inflation has been raised for 2024 to factor in the downstream impact of the Red Sea crisis. The broad message was that rate cuts would still happen, but would be slower and more calibrated in the coming years.
• There were other data points too in the week. The API weekly crude stocks were expected increase by 0.077 Million barrels, but instead it fell by -1.519 Million barrels. In a positive for the dollar, the current account deficit for Q4 came in sharply lower at $194.8 Billion compared to the estimate of $209 Billion. Also, as promised the fed bond book tapering has slowed. In the latest week it has just tapered from $7.542 Trillion to $7.514 Trillion. Clearly, the Fed does not want to tighten liquidity beyond a point.

Let us now move the big triggers from the US markets for the coming week, which will have an impact on the CME Fedwatch.

TRIGGERS FOR CME FEDWATCH IN COMING WEEK TO MARCH 29, 2024

There are 4 critical triggers to watch out for in the coming week to March 29, 2024 with reference to CME Fedwatch.

• The third and final estimate of US Q4 GDP is expected to be announced on Thursday along with the full year GDP picture for 2023. The estimate is that the fourth quarter GDP is likely to be held at 3.2%, and the full year GDP projection for calendar year 2023 may be pegged at 3.1%; nearly 200 bps above the early estimates at the start of 2023.
• The PCE inflation number for February will be announced on Friday and it is expected to go up in tandem with the consumer inflation which spiked by 10 bps this month. The PCE inflation is likely to spike from 2.4% to around 2.5% or 2.6%, and that is likely to be largely driven by higher core PCE inflation. MOM PCE inflation has been showing stress.
• There are big speeches coming up this week. Governor Christopher Waller (famous for what is the hurry to cut rates speech) will be addressing the audience on Wednesday while the Fed chair, Jerome Powell, will also be speaking on Friday. Powell will be closely tracked after his commitment to take up 3 rate cuts in 2024, even if back-ended.
• Among other data points, the dollar index will be closely tracked by the CME Fedwatch, after the dollar hardened sharply against the major hard currencies like the Euro and the Pound. The hardening of the dollar had resulted in a spike in the dollar index (DXY) during the week and will be a key data point for the CME Fedwatch to track.

Let us finally turn to how the CME Fedwatch has not only converged with the Fed viewpoint, but CME Fedwatch is becoming more hawkish than the Fed itself.

CME FEDWATCH GETS ENTHUSED BY POWELL STATEMENT

In the previous week, the higher than expected consumer inflation at 3.2% played the spoilsport. In the previous week, the CME Fedwatch not only pegged rate cuts at 75 bps in 2024, but it is also hinted at a substantial possibility that the Fed may restrict itself to just 50 bps of rate cuts in the calendar 2024. However, the Powell speech did change all that.

• On the upside, there appears to be virtual consensus between the Fed and the CME Fedwatch. The Fed has already committed, in no uncertain terms, that rates may have peaked at 5.25%-5.50%. The same was reiterated by Jerome Powell in the Congress testimony too. That is something CME Fedwatch has been hinting for some time. Fed may, at best, choose to hold rates higher for longer; but rate hikes were off the table.
• On the downside, there is now a substantial sync about the number of rate cuts in the next two years. In the lates Fed statement, Jerome Powell, gave an indirect signal that the Fed may still go ahead with 3 rate cuts in 2024, although the long term reduction in rates may be calibrate. That did not change the expectations of the CME Fedwatch on the extent of rate cuts, but it certainly made some of the probabilities on the downside more intense. The CME Fedwatch is now hinting at 3 rate cuts of up to 75 bps by December and 5 rate cuts of up to 125 bps by June 2025.

If you combine the language of the Fed statement and the quarterly projection update, the , the Fed has underscored that last mile inflation could be the toughest to handle. Now there appears to be a dilemma. On the one side, the speeches by Fed governors are still bordering on the cautious and hawkish. In that light, the Fed statement assuring 3 rate cuts in 2024 looks a little out of sync. We should get more clarity in the coming weeks.