Stock Markets After Fed Rate Cut: Does This Make Any Sense?
Stock Markets After Fed Rate Cut: Does This Make Any Sense?
By:Ilya Spivak
How did stock markets find a way to turn a Fed let-down into a forceful rally?
- Bonds, rates, gold, and the US dollar show the Fed was less dovish than expected
- Stocks found a way to cheer the FOMC outcome despite apparent disappointment
- Wall Street seems content to let the economy “run hot”, at least for the time being
As the dust settles after this week’s loud monetary policy update form the Federal Reserve, signs of regime change across major financial markets have started to appear. Price action across stocks, currencies, interest rates, and metals seems to imply a change in the central market narrative as well as the lens through which traders interpret news flow.
The US central bank seemed to strike a more hawkish tone than expected, even as it finally relented to pressure from the markets and the White House to resume cutting interest rates. Delivered alongside a widely anticipated 25-basis-point (bps) reduction was a forecast update signaling acute resistance to aggressive easing.
The Fed pushed back on markets betting on large-scale rate cuts
All of the forecast changes in September’s update of the Summary of Economic Projections (SEP) moved expectations in a less dovish direction compared with what was offered up in June. Where growth and inflation forecasts were revised, they were adjusted higher, while changes to the expected unemployment rate brought estimates lower.
On the outlook for interest rates, Federal Open Market Committee (FOMC) participants seemed to give their blessing for a dovish shift in market pricing for 2025 without embracing the follow-on stimulus that traders expect to arrive thereafter. They narrowly called for three cuts this year, which markets had mostly priced in at least a week earlier.
Meanwhile, they still allowed for just 25bps in further easing in 2026, albeit from a lower baseline. That stands in stark contrast to the 66bps still reflected in the pricing for benchmark Fed Funds interest rate futures. That implies at least two cuts and a non-trivial 64% probability of a third one.
Why did stocks change their mind about Fed policy?
The markets clearly took notice. The US dollar powered higher alongside Treasury yields as bonds and gold prices fell. Those moves carried through from the markets’ initial reaction and through the following day’s trade. This seemed to clearly show that traders interpreted the FOMC meeting outcome as more hawkish than expected.
The response from stocks seemed confusing at first. Wall Street was clearly hoping for a dovish turn at the central bank. The markets cheered rate cut stage-setting at the Fed’s Jackson Hole symposium last month, as well as CPI inflation data that proved to be just acceptable enough to let Chair Powell and company move forward with easing.
Behaving in line with this thinking, stocks fell as the FOMC result hit the wires. However, prices reversed course a mere hour thereafter, though major market benchmarks still finished the day slightly in the red. A forceful push higher followed the next day. The Nasdaq 100 and the Russell 2000 posted their best days in a month. The S&P 500 rallied too.
Perhaps this rapid rethink came as traders took the Fed’s forecasting at face value, reasoning that has resigned to let the economy “run hot” if it can cut rates even as it projects faster growth and inflation up ahead. That understandably bodes well for risk appetite, if only in the short term, before the threat of overheating becomes readily apparent.
Ilya Spivak, tastylive head of global macro, has 15 years of experience in trading strategy, and he specializes in identifying thematic moves in currencies, commodities, interest rates and equities. He hosts Macro Money and co-hosts Overtime, Monday-Thursday. @Ilyaspivak
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