The Season May Change, But the Market’s Thirst for Lower Rates Doesn’t

Stocks end August strong, but September’s seasonal weakness and Fed policy uncertainty loom.

KEY TAKEAWAYS

• The final trading day of August starts at record highs

• September is historically the weakest month for stocks

• Fed is caught between inflation risks and weakening jobs

• Powell hinted at policy shift; Waller openly calls for cuts

• Markets expect a September rate cut with more to follow

MY HOT TAKES

• Seasonality matters–but Fed policy matters more right now

• Tariff-driven inflation is harder for the Fed to fight

• Powell may soon be outnumbered by doves on the FOMC

• Markets are betting on cuts regardless of the data

• This September could be less about history and more about politics

• You can quote me: “Waller doesn’t just want a rate cut, he wants Powell’s job—and being an uber-dove is part of the audition.”

Sunset. Everyone has their own method for marking the end of a season. For summer, in the US, it could be Labor Day Weekend, which happens to be this weekend. Still others mark it at the start of September, also this weekend. Finally, meteorologists mark August 31st as the end of summer–this Sunday. Regardless of all those super-useful facts 😆, today marks the final trading day of August for everyone. 

What does that mean for you and your portfolio? Well, for starters, September is, historically, a pretty weak month as far as performance goes. Looking back over the past 5 years, only ‘24 gave us a gain for the month with the remainder closing in the red. On average, the S&P 500 lost -4.17%. Things don’t look quite as bad if you zoom out to look back 20 years where September lost -0.65% on average, though it is still the worst performing month on the calendar. So, I suppose we have that waiting for us when we show up bright-eyed and bushy-tailed on Monday, September 1st.

As August comes to a close for markets today, we know to expect the month’s labor numbers next Friday. The monthly jobs situation is always important, but a lot seems to be hanging on it this time around. Though it is not clear that the economy needs lower interest rates, it appears that the market certainly does, and not for technical reasons either.

The Fed Funds Rate, currently at 4.5%, is unarguably restrictive–the brakes are on. However, given that the latest GDP reading has the US economy growing at 3.3% annualized, which is respectable AND probably better than most economists were expecting at the start of the year. The economy is growing despite the Fed having its foot on the brakes.

In the theoretical world this could mean inflation is to be expected. A healthy economy usually means strong consumer demand. Strong consumer demand is the principal ingredient for demand-pull inflation, which is controlled by using those interest rate brakes. Indeed we do have some inflation these days, and that is worrisome to the Fed. However, it is not that hot demand that worries them but rather inflation caused by the administration's aggressive tariff policy. That has shown up slightly in elevated goods prices recently, though not as bad as many suspected–yet.

So, the economy is growing and the inflation, while not raging, is ticking higher. That would seem to be a clear signal that the Fed would like to keep interest rates restrictive–brakes on.

However, there are signs that the economy may be losing steam, particularly in the labor market. Including July the US had 3 months of really weak jobs growth. Though the overall unemployment rate appears to be within a normal long-run range, it is clearly on a climbing trajectory which also raises some alarms. With full employment being ½ of the Fed’s dual mandate, it finds itself in a bit of a tight spot. Keep the brakes on to keep inflation in check, or ease up to slow the decay of growing unemployment.

It would appear, more recently at least, that the Fed has shifted its focus from inflation to employment as its key policy driver. That clue came from Fed Chair Powell’s Jackson Hole speech last Friday where he hinted at policy changes. Hinted. More vocal are a growing number of FOMC members who have expressed similar concern. Some have done more than hint. Most notable is Chris Waller who has outright advocated for a September rate cut as recently as last night. This should surprise nobody as he was one of 2 dissenters at the last FOMC meeting, and he is being considered for the role of Fed Chairman to succeed Powell. Being an uber-dove is a key job requirement set by the administration, and Waller seems like he wants the job. 😉

Speaking about jobs at the Fed, there is currently one vacancy which is in the process of being filled by the administration. It’s no shoe-in yet, but the President’s interim choice is surely a rate-cut advocate. To top that off, another office may become empty soon as the President is attempting to push out another Fed Governor, Lisa Cook. That seems like it will ultimately be decided by the courts, and her successor, if the President is successful, will be another rate cutter. Though all this noise and these mixed signals should make it unclear about what is next for rates, markets seem to be banking on a rate cut next month. Fed Funds futures place a roughly 85% chance of a -25 basis-point cut next month and a 100% of a second similar cut before yearend.

September 17th is still a few weeks away and lots can happen in the interim. This morning we will get the latest inflation numbers from the Bureau of Economic Analysis in the PCE Price Index. This Fed-favored release is expected to show a month-over-month slowdown to 0.2% from 0.3%. As mentioned earlier, next Friday will bring us the monthly employment situation from August where we will learn if the recent spate of rough figures will continue. These will certainly inform the Fed’s next policy decision, which will absolutely determine where stocks go next.

The S&P 500 is up by 10.55% year to date. It closed at a record high yesterday–its 20th this year so far, and the Dow Jones Industrial Average also managed an all-time-high close yesterday. Sure, there are some animal spirits present, but as Q2 earnings season draws to a close, it is clear that companies have managed to pull off a solid quarter. With only 8 S&P 500 members yet to announce, the index boasts an impressive 12.38% EPS growth with a 6.25% sales growth. Biggest growth sectors were Communications Services and Technology (44.07% and 22.27% respectively).

What comes next appears to be very much in the hands of the Fed as it gets ready to make that tough decision in a few weeks. Stocks are hot and so is the economy. With seasonal headwinds about to hit and a murky economic picture, rate cuts appear to be the only thing that will quench the thirst of markets, raring to climb higher yet.

Astronomic summer ends September 22nd. That is good enough for me, as I plan to savor what remains of the season. Nights will slowly get cooler but the days will remain warm. And the markets, well, seasonably hot seems to be the forecast.

YESTERDAY’S MARKETS

Stocks gained yesterday with the Dow and the S&P closing at fresh highs as traders contemplated a healthier-than-expected GDP revision. NVIDIA–despite a great earnings release the night before–slipped and weighed down the markets, closing down nearly 1%, but its growth-tech heavyweight colleagues helped keep the index buoyant.

NEXT UP

• Personal Income (July) is expected to have grown by 0.4% after climbing by 0.3% in June.

• Personal Spending (July) may have picked up climbing by 0.5% after gaining by 0.3% in the prior month.

• PCE Price Index (July) is expected to remain unchanged at 2.6%.

• MNI Chicago PMI (August) probably slipped to 46.0 from 47.1.

• Next week, starting on Tuesday (markets are closed Monday), we have some earnings stragglers along with PMIs, JOLTS Job Openings, Factory Orders,  Fed Beige Book, and monthly job numbers. There is a lot more there than meets the eye, so check back in on Tuesday for your weekly calendars.

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