Christopher Waller offered a conditional case for holding rates steady—and markets exploded higher. The reaction may reveal more about Wall Street than the Fed.
KEY TAKEAWAYS
Christopher Waller suggested he could support holding rates steady in September if inflation continues improving. Markets treated that carefully qualified statement as significantly more dovish than the words themselves warranted.
The three-month annualized core PCE rate has declined meaningfully, supporting Waller’s argument that recent inflation momentum has improved. Core CPI and monthly energy prices have also been cooling.
Energy’s elevated year-over-year inflation rate largely reflects earlier price spikes and base effects rather than current monthly momentum. That favorable trend remains vulnerable to renewed geopolitical trouble in the Gulf.
Kevin Warsh’s hawkish Jackson Hole message sharply increased expectations for a September hike, yet Waller’s softer comments quickly reversed a meaningful portion of that move. The asymmetry suggests markets are unusually hungry for reassurance.
A September rate hike may be mathematically “priced in” while still producing a negative market reaction. Without reassuring guidance, investors could discover that expectations and hopes were two very different things.
MY HOT TAKES
The market reaction matters more than Waller’s actual comments. When a conditional statement from one governor produces an outsized rally, it tells us investors were already leaning emotionally toward the outcome they wanted to hear.
Warsh’s reduced-forward-guidance strategy has consequences. Less Fed communication may prevent policymakers from boxing themselves in, but it also creates a vacuum that markets will fill with increasingly aggressive interpretations of every stray comment.
The inflation backdrop is legitimately improving–but it isn’t secure. Current monthly trends look better than twelve-month numbers suggest, yet energy remains capable of reversing that progress quickly.
A “priced-in” hike is not necessarily a painless hike. Markets can intellectually expect tighter policy while simultaneously positioning for policymakers to find an excuse not to deliver it.
The next jobs and CPI reports matter partly because of market psychology. Investors will be looking beyond the numbers themselves for permission to believe that the Fed can stay on hold.
You can quote me: “A market that hasn't been given clear guidance in months doesn't stop wanting it–it just gets more desperate.”
Downward dog. I want to start off by apologizing if you are not a dog person–I obviously am one. If you like cats, I am sure that there is some analogous interpretation. If you like home pets from “a distance” because you are “allergic,” just sit back and enjoy. Ok, disclosure done, let’s get into it.
I read on my Bloomberg this morning that scientists are close to being able to communicate with animals using AI. Awesome–I guess? Solving humanity’s problems–love it. But seriously, I am not sure AI is really necessary for that. My Cavapoo Eloise turns four this very weekend, and in these past several years I have gotten to know QUITE A BIT about her habits. She has–to put it subtly–great communication skills. 😉🤣 She has different barks for different messages. There is a happy bark, a “listen to me” bark, there is a playful bark, there is an angry bark (for when she sees the two Frenchies sunning themselves on the terrace across the street, there is some funny combo bark when she sees anything that resembles an animal on the television, oh, and there is a happy whimper-like bark. There are plenty more, believe me. To the poor folks living in the apartments around ours, it all sounds like an annoying pup, but to me–well, let’s just say I get it.
Markets, it turns out, are not that different. This week they heard a whimper-like bark–from a Fed governor, not even the Chairman–and reacted like the house was on fire in the good direction. Worth asking why a whimper moved markets more than a chorus of angry barks has all month.
Now, what did Christopher Waller actually say that got treated like the good kind of bark?
On Thursday, in an interview, Waller–a Fed governor, one of twelve voices on the Federal Open Market Committee, not the one who runs the meeting–said that if the inflation data due over the next two weeks keeps behaving itself, he'd be inclined to support holding rates steady at the September meeting. That's it. That's the whole announcement. Not "inflation is beaten." Not "we're done." Just: give it a little more time, and if it keeps cooperating, I won't push for a hike. He even reached for a John Lennon line to make the point–give disinflation a chance. Which, fine, I appreciate the effort–and I love John Lennon–though I'd argue disinflation doesn't need our permission, it just needs…well…it needs the data to show up.
The specific data point he leaned on was the three-month annualized core PCE reading–the Fed's preferred inflation gauge, stripped down to a shorter, more current window instead of the lagging twelve-month figure everyone quotes on the news. That measure has fallen from 4.76% in February to 3.05% in July. That is a real move. Waller called the speed of it "encouraging," and on its face, he's not wrong to notice. His number does strip out that long-lag base effect that makes the number unrealistic in a volatile data set.
Here's where your first question comes in, and I want to give it the deep look it deserves rather than just nodding along, because you're onto something, but the real answer has a wrinkle in it.
Core CPI–the everything-except-food-and-energy read–cooled to 2.5% year-over-year in July from 2.6% in June. That's consistent with Waller's PCE point. So far, so good. But when you go looking for where the "ex-energy" caveat really matters, you find something more interesting than "energy is still a mess." Energy prices actually fell 1.5% month-over-month in July, on top of a 5.7% drop in June–the largest monthly energy decline since April of 2020. Energy, in other words, isn't the drag holding underlying inflation hostage anymore. It's doing the opposite. It's pulling the headline number down, not up.
The reason energy still shows up as elevated–up 14.7% over the past year–is the above-mentioned base effects. Prices spiked hard back in the spring when this Hormuz mess started, and until that spike rolls fully out of the twelve-month comparison, the year-over-year number will keep looking angrier than the current trend actually is. So the honest version of your first assertion isn't "inflation is cooling once you strip out energy." It's that both core prices and energy prices are cooling right now, on a monthly basis, at the same time, which is a better story than the one Waller told, and also a more fragile one, because it depends entirely on oil staying calm. One bad tanker headline out of the Gulf and that whole tailwind reverses in a single data release. I'd keep that notebook open, not close it–especially given the more recent spike in oil and gas prices due to increased tensions in the Gulf.
Which brings me to the part of this that I find genuinely fascinating–and I think it's the more important half of the story.
Eleven days before Waller's interview, Fed Chairman Kevin Warsh stood up at Jackson Hole and delivered what markets read as a distinctly hawkish message–"we have work to do," a recommitment to the 2% target, a pointed refusal to say the recent tame inflation prints meant anything had fundamentally improved. That single speech moved September hike odds from around 35% up to the mid-60s. That's the Chairman. The loudest, most senior voice in the room. A full-throated, angry bark, delivered on purpose, meant to be heard. The sunbathing Frenchies likely heard it. 😉
Then this week, one governor–not the Chairman, a single vote among twelve, and coming off a July meeting where three of his colleagues already dissented in favor of a hike–offers a conditional, hedge-everything, "if the data behaves" kind of statement. And the market didn't just perk up. It threw a party. The Dow put in its best single session since early August, up over 600 points. The 10-year yield, which had just touched its highest level since November of 2023, dropped back down meaningfully in a matter of hours. Hike odds, which Warsh's chorus had pushed up near two-thirds, fell back toward a coin flip.
I don't think that reaction is about Christopher Waller. I think it's about how starved this market has become for anything that sounds like reassurance. We are living through a Fed chairmanship that has made a deliberate strategy out of withholding forward guidance–Warsh has said as much himself, calling it his way of avoiding a "hall of mirrors" where the Fed talks itself into a corner. I understand the theory. But a market that hasn't been given clear guidance in months doesn't stop wanting it. It just gets more desperate, and it grabs onto the first soft word it hears from anyone standing near a microphone, regardless of whether that person actually runs the show.
That, to me, is the real story this week, and it's the one that should make you a little more careful, not less. A market that rallies this hard on a conditional maybe from a non-Chairman is a market standing on thinner ice than the headlines suggest. And here's the part I think is genuinely underappreciated: markets have spent all year quietly hoping for a version of a hike that doesn't feel like a hike–mostly priced in, telegraphed, softened by exactly the kind of guidance nobody's currently getting. If the Fed does raise rates on September 16, and it comes without that reassurance, without a Waller-style whisper to cushion it, I wouldn't be surprised to see the same dynamic we've watched play out all earnings season, where genuinely fine numbers get sold anyway because the market was secretly hoping for something better. A "priced-in" hike delivered coldly can still feel like a gut punch if what everyone was quietly rooting for was a reason to believe it wouldn't happen at all.
Two data points stand between now and that answer–this morning’s jobs report and the August CPI print due the week before the meeting. Watch them not just for what they say about inflation, but for what they say about how much this market still needs someone, anyone, to bark softly in its direction.
We will celebrate Eloise’s fourth birthday this weekend, and if her track record holds, she'll spend the party alternating between the happy bark and the "listen to me" bark, occasionally interrupted by a warning shot at the Frenchies across the street. I've learned to tell the difference without thinking about it. Wall Street, apparently, is still working on it–and this week, it heard a whimper-like bark and mistook it for the all-clear. 🐶
YESTERDAY’S MARKETS
Stocks rallied yesterday, with the Dow Jones Industrial Average rising 1.2% to close at 53,686, the S&P 500 gaining 1.1%, and the Nasdaq Composite advancing 1.4%. The rally followed remarks from Fed Governor Christopher Waller signaling he could support holding interest rates steady at the September FOMC meeting if inflation data continues to cooperate. The yield on the 10-year Treasury note fell to roughly 4.75%, retreating from the prior day's 4.82% level, its highest since November 2023.
NEXT UP
Change in Nonfarm Payrolls (August) is expected to come in at 55k after showing a 23k loss in July.
Unemployment Rate (August) may come in unchanged at 4.1%.
Next week: Markets are closed on Monday for Labor Day, but still some important earnings announcements along with the super important CPI/Consumer Price Index, PPI/Producer Price Index, more housing numbers, and University of Michigan Sentiment. There is a lot more there than meets the eye–so you better show up if you want to be the early dog who gets the bone.