A half-point interest-rate cut by the Fed on Wednesday wouldn't necessarily signal the U.S. is heading into recession, according to BlackRock's Rick Rieder
It's a scenario that may strike some investors as unnerving. The stock market is trading near an all-time high while the Federal Reserve is contemplating an extra-large interest-rate cut that raises questions over whether policymakers may see something troubling about the economy.
"I don't believe a recession is anywhere near in sight," said Rick Rieder, BlackRock's chief investment officer of global fixed income and head of the firm's global allocation investment team, in a phone interview. "The economy is moderating, but still in pretty good shape."
The Fed is getting ready to cut rates after holding them higher to tame inflation that had surged in the U.S. during the COVID-19 pandemic. Inflation has since cooled, and although the Fed has in the past started its easing cycle with a large half-point cut on worries over a recession or financial crisis, Rieder says a cut of that magnitude wouldn't necessarily reflect that one is looming now.
Investors are bracing for the Fed's decision Wednesday on where to set rates, after recently shifting back and forth between expectations for a cut of a quarter percentage point or half point. So far this week, the market has priced in a higher probability of a 50 basis-point cut.
"I think it's a toss-up whether they do 25 or 50 - despite the fact I think they should do 50," said Rieder. But the market's latest pricing of rate-cut expectations might make it "easier for the Fed to just do it," he said. "It will be disappointing to the markets now if it's only a 25-basis-point cut."
The U.S. stock market ended Monday with the Dow Jones Industrial Average DJIA at a fresh-all high. On Tuesday, the S&P 500 SPX briefly traded above its record closing high notched July 16, before closing nearly flat, according to FactSet data.
Fed-funds futures on Tuesday showed traders pricing in a 65% chance the Fed will decide to lower its policy rate by 50 basis points, and a 35% probability of a 25 basis-point cut, according to the CME FedWatch Tool, at last check. Looking further out, traders saw potentially 125 basis points of rate cuts by year-end, or 1.25 percentage points.
"The market has moved very aggressively," said Rieder, of its rate-cut expectations.
More important than whether the Fed on Wednesday decides to cut rates by 25 or 50 basis points will be its communication on how quickly it may move its federal-funds rate to 4% or below, according to Rieder. The market is probably pricing in deeper rate cuts through 2024 than Fed officials may be penciling based on the most recent economic data, he said.
A "big focus for the markets" will be any changes the Fed makes in its policy statement informing the speed of potential rate cuts, including how it describes the balance of risks to its inflation and employment goals, according to Rieder.
He said markets will be watching for how worried Fed Chair Jerome Powell seems about the labor market after the U.S. unemployment rate's rise in recent months, with heightened concern potentially indicating a faster pace of rate cuts by the Fed.
The central bank's so-called dot plot in its summary of economic projections, which plots the rate forecasts of individual Fed officials, will be released Wednesday along with its policy statement.
The previous summary of economic projections, released in June, showed the median forecast for the fed-funds rate was 5.1% by the end of 2024. The Fed currently holds its benchmark rate at a target range of 5.25% to 5.5%, an elevated level maintained since July 2023 following a series of rate hikes aimed at combating high inflation.
"There's going to be a keen focus on how much they move their dots down," said Rieder. Clarification around the amount of rate cuts Fed officials are anticipating - and how quickly the central bank now sees getting to the point - "is going to be really important," he said.
Interest rates in the bond market have dropped this month in expectation of Fed rate cuts.
The yield on the 10-year Treasury note BX:TMUBMUSD10Y fell Monday to 3.622%, the lowest level since June 2023 based on 3 p.m. Eastern time levels, according to Dow Jones Market Data. The two-year Treasury rate BX:TMUBMUSD02Y declined to 3.554%, its lowest yield since September 2022.
The Fed's current benchmark rate is the "wrong price," or too high, when considering inflation in the U.S. is "certainly" trending towards, if not at or through, its 2% target, according to Rieder.
For example, he cited core data from the personal-consumption-expenditures price index, the Fed's favored gauge. Core PCE, which excludes food and energy prices, is down to 1.7% on a three-month annualized basis, he said.
In Rieder's view, a half-point rate cut by the Fed on Wednesday would reflect a "recalibration" of its monetary policy after a significant easing in inflation left its policy rate too elevated relative to what "equilibrium" should be. "If you were setting the fed-funds rate for today's economic conditions, it would easily be" 100 to 200 basis points lower than it is today, he said.
Rieder has positioned the BlackRock Flexible Income ETF BINC, an exchange-traded fund that he actively manages to invest in fixed-income markets globally, with significant exposure to high-yield bonds, as he is not currently anticipating a recession.
"I love high-yield," Rieder said, referring to corporate bonds rated below investment grade. "We're extremely active in managing our high-yield exposure both in the U.S. and Europe," seeking to avoid parts of the market that either are undergoing restructurings or trading at "rich" valuations, he said.
Rieder has been steering the fund - which also holds securitized assets, some agency mortgages and investment-grade corporate credit - to buy assets in the "belly," or three -to-five-year portion, of the yield curve. The ETF's portfolio is running at an annual yield of more than 6%, he said.
S&P 500 trades near record high
Meanwhile, the U.S. stock market has posted double-digit gains so far this year, as it faces the conclusion of the Fed's two-day policy meeting on Wednesday.
The S&P 500 eked out a less than 0.1% gain Tuesday to close at 5,634.58, finishing the trading session up 18.1% in 2024 and just 0.6% below its all-time closing high, according to Dow Jones Market Data.
The S&P 500 looks relatively expensive, trading at 21 times forward earnings versus a 10-year average of 18 times, according to Adam Turnquist, chief technical strategist for LPL Financial.
Valuations aren't a good timing tool in the short-term, but when they're high it can raise the bar for buyers considering buying stocks after a pullback, he said in a phone interview.
The outcome of the Fed's meeting may turn out to be a "make-or-break moment" for U.S. stocks, "considering we're right near this inflection point for the market" from a technical standpoint, according to Turnquist.
The U.S. stock market has stumbled in September, with the S&P 500 posting a monthly decline of 0.2% through Tuesday. FactSet data show.
"There's pretty high expectations not just for a 50 basis point rate cut," Turnquist said, "but a consistent series of rate cuts all the way into next year."
All eyes will be on Powell on Wednesday, when he is scheduled to host a press conference at 2:30 p.m. Eastern time. That's 30 minutes after the Fed is due to release its decision on rates, marking the expected start of the Fed's rate-cutting cycle.
"Fifty is the usual amount kicking off an easing cycle, but the economic circumstances are different this time: There's no recession clearly barreling toward us," Yardeni Research said in a note Monday. "Nevertheless, recession fears undoubtedly are influencing Fed officials more now that they're much less worried about inflation than over the past two and a half years."
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