Powell’s Hawkish Pivot: The End of 2024’s Market Party?

From higher inflation projections to Powell’s cautious tone, explore why the Fed’s latest decisions sent markets into a tailspin.

You’re a mean one, Mr. Powell. What happened? While we were sleeping, someone came and took all of the gifts from under the Christmas tree. Hoodwinked, investors were! Well, all that colorful description of the markets from 2:00:01 PM Wall Street Time through the close, reflects how most of us were left clamoring for answers after the Fed release.

You have read my market notes. You have heard me say it on live TV. You have read my quotes in the press. The Fed is going to cut rates by ¼ of a percentage point and signal a shallower rate-cut path for 2025 leaving my base case scenario at 50 basis points more of cuts next year. To be honest, my view was pretty much in line with most of Wall Street and investors. It wasn’t a recent revelation either. That means that it was fully reflected in the markets. So why then did the Dow Jones Industrial Average extend its longest losing streak since 1974, bleeding out -1123 points? Why did the S&P500 suffer the largest Fed day drop in decades? Why is everyone so torqued up?

Let’s start with the policy. The Fed cut rates by 25 basis points which was overwhelmingly expected. In fact, if anything, a small minority got more than they hoped for. Interestingly, one Fed governor dissented, which is rare. So, the vote to lower rates was not unanimous.

The carefully crafted policy statement had no hidden hints other than a minor insertion of the words “the extent and timing of…” just prior to the existing words “additional adjustments.” That is the Fed’s way of saying that there are no guarantees of future cuts. Ok, this was not at all unexpected.

Now, let us move on to the quarterly Summary of Economic Projections released by the venerable gaggle of prescient bankers. The Fed thinks that GDP will end the year at 2.5%, an upgrade from its September projection. Message: “economy is healthier than we expected.” We, you and I, my friends, already know that. The Unemployment Rate expected by the Fed this year and next was also tweaked down to 4.2% and 4.3% respectively. Message: “the labor market is not as bad as we thought.”

What about inflation? Back in September, as if it was sooo long ago, the Fed expected it to end the year at 2.3% and simmer down to 2.1% next year. That 2.1% is almost a gimme’ for the target of 2.0%. Something happened in the past few months that caused the Fed to up their projections for this year to 2.4%, and more importantly, next year’s to 2.5%. So, now the Fed expects inflation to INCREASE next year. Message: “we are worried about inflation again.” Finally, the Fed is projecting the Fed Funds Rate to decrease to 3.9% next year, just 50 basis points lower than where we are now. In September, the Fed expected it to be a whole percentage point lower. And here it is, the infamous Dot Plot. Check it out.

I know that this is a busy chart, but this is what all the chatter is about, so be patient, and pay attention. The grey dots and lines are the FOMC’s projected interest rates from three months ago, and the mustard dots are the current projections. Each dot represents an FOMC member’s projections. You can see that they don’t all agree, so we focus on the median. The median is what we expect and, on the chart, where the green or grey line intersects the dots. You should be able to see from the lines that those expectations shifted up and became shallower. Message: “we expect rates to be higher for longer.” You may also notice that the 2025 dispersion of dots, or projections, became more tightly dispersed around the median with fewer below the projection. Only 2 FOMC members expect rates to be at September’s median or lower. That is certainly a shift, but to be clear, IT WAS NOT AT ALL UNEXPECTED.

So, to sum up the release, the Fed sees improved health in the economy and the labor market. The Fed is expecting inflation to actually tick up next year. That concern led the FOMC members to project less rate cuts next year and beyond. I can confidently say that all of these were baked into the market up to the minute before the release.

Then came Powell’s press briefing. I think that it is important to point out that yesterday's Powell was not the Powell that we are used to. He appeared less confident than in the past, and it is not because he stayed up late Netflix binge-watching the night before. No, he was reflecting the Fed’s confusion over the current situation, at least that was what his body language expressed. If the Fed was expecting inflation to tick up, then why would they cut rates now? That question was certainly not answered. Can we get rate HIKES next year? No, not according to the Chairman. Did the committee consider the incoming administration’s impact on… well, everything? According to Powell, some members did, which is interesting, however, those considerations were not the cause of the projected policy changes. The bottom line, is that the Fed is now, once again, concerned about inflation. That means it would be imprudent to just simply continue to cut rates at every meeting, which was once the expectation BACK AT THE BEGINNING OF THE YEAR. Those expectations have been heavily downgraded leading up to yesterday morning; very much in line with the FOMC’s mid-afternoon admission. How do I know? Because Fed Fund Futures were predicting it. Interestingly, with the release, which came in as the market expected, futures went the other way, predicting only a single 25 basis-point cut next year, despite the Fed’s own projection. That’s right, markets which have been largely more dovish than the Fed on rate cuts, shifted to being more conservative.

All this still leaves us wondering why the markets sold off as much as they did in the wake of a largely expected event. Let’s take a step back and look at market performance over the past month. Is it fair to say that markets have been a bit exuberant since the election? I am not saying that it is not justified, but the market has certainly been oozing feelgood vibes. The VIX volatility index was around 14 for weeks touching 16 on Tuesday. By historical standards that is low volatility. In fact, many would call that complacent, given that the market has run up so much year to date, Trump will be taking office next month, and a Government shutdown is looming. All that seems like a setup for a wild and over-accentuated reaction to just about anything. Pent up fear has now been released. What’s next? Was the Santa Claus rally completely dashed? It’s still too early to call, but we might get some clues tomorrow after we get the final inflation figure of the year. Save a few cookies for Santa, he may still show up.

YESTERDAY’S MARKETS

Stocks got hammered yesterday in response to what was largely an expected Fed policy and projection, highlighting the underlying uncertainty felt by most investors. Bondholders did not escape the pain as yields across the curve heaved higher. The so-called "fear index” indicated that investors are indeed… fearful, though it’s not yet evident about what.

NEXT UP

• Annualized Quarterly GDP (Q3) is expected to come in at 2.8% in line with earlier estimates.
• Initial Jobless Claims (December 14^th) is expected to come in at 230k, slightly below last week’s 242k claims.
• Leading Economic Index (November) may have slipped by -0.1% after declining by -0.4% a month before.
• This morning, CarMax, Darden Restaurants, and Conagra beat on EPS and Sales. After the closing bell, we will hear from FedEx and Nike.

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