Halyard’s Weekly Wrap – 12/15/23 – Fed’s Dot plot update fuels sharp decline in interest rates

This was a week when investors would have done well ignoring the economic calendar and instead focused on the summary of economic projections, more widely known as the “dot plot.” Released along with the minutes of the open market committee meeting on Wednesday, the dot plot showed a change in thinking from the committee. Investors had been speculating that the Fed had reached the peak of their tightening cycle and the FOMC release confirmed that.  The dot plot released in September showed more than half of the committee expected an additional rate hike this year.  The December chart indicated that no members anticipate any additional hikes this year. Moreover, the median view is that there will be 75 basis points of rate cuts in 2024.  With that decidedly dovish statement, stock and bond markets continued their bullish run.  The five-year Treasury note is trading below 4%, closing the week out at 3.92%, while the S&P 500 continues its parabolic rise, rallying more than 15% since the last week of October. 

As an aside, we were surprised by Chairman Powell’s description of how the SEP forecasts are compiled. Most economist’s aggregate data over months to formulate their forecast and will tweak it gradually as new information becomes available. During the Q&A session, the Chairman was asked if this week’s inflation data shaped the committee’s forecast in any way. He explained that members have until mid-morning on the second day of the meeting to submit their forecast to be compiled by Federal Reserve staff. In essence, half of the committee changed their mind on interest rates based on one number.  

Taken at face value, the economic data this week told a different story than the Fed communication. The consumer price index, ex-food and energy, posted a 4.0% year-over-year growth rate, unchanged from the prior month and well above the 2% target espoused by the Fed. The producer price index, a measure of inflation in the manufacturing sector showed some improvement, coming in at 2.5% year-over-year, but that has little bearing on consumer sentiment or inflation.   

The retail sales report for November was expected to mirror the slight decrease in October, but instead reflected a surprisingly strong month, rising 0.3% for the month, offering hope for a solid holiday sales season. 

Continuing claims for unemployment insurance continued to rise, totaling 1.87 million people currently receiving the insurance, however initial jobless claims fell to 202,000 for the week; effectively a market neutral release. 

Had the dot plot not telegraphed the change in the committee’s thinking, we strongly suspect the Treasury market would be unchanged on the week.