‘Can’t take recession for granted’ after GDP data: Traders see 2024 Fed rate cuts anyway

Meanwhile, fed funds futures traders priced in a 38.2% likelihood that the Federal Reserve will cut its main policy rate target from a current level of 5.25%-5.5% by next May. Their expectations for rate cuts jump to almost 100% by the end of next year.

Read: Wall Street is again worried about an imminent recession. Here’s what the data show, and what it might mean for your portfolio.

Thursday’s moves are a reflection of just how much Wall Street is once again concerned about an imminent recession. The rub is that the world’s largest economy has repeatedly defied such calls for more than a year, and now investors and economists think markets may be erring by overlooking too much of the strength seen in the third-quarter GDP report.

“You can’t take a recession for granted,” said Chris Zaccarelli, chief investment officer for Independent Advisor Alliance in Charlotte, N.C., which manages roughly $10 billion in assets. “At the end of last year, most people, including me, thought it was a foregone conclusion, but we were all wrong. You have to be a lot more humble and revisit that. We all need to take a step back and acknowledge there’s other things afoot and we don’t know for sure. You have to be less certain about how 2024 is going to play out.”

Assuming that U.S. economic growth slows down to 3.5% from almost 5% in the third quarter, “the economy is doing well in every respect, except inflation, which remains too high,” he said via phone on Thursday. “The Fed can look past this GDP number for now and keep rates on hold for the Oct. 31-Nov. 1 meeting. However, the December meeting is still live and if we see high inflation numbers and continued strength in the economy, a number of people at the Fed will be pushing for a rate hike.”

Other data released on Thursday showed that durable-goods orders jumped by a greater-than-expected 4.7% in September, mostly due to a flush of new contracts for airplanes from Boeing
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+1.70%.
Initial jobless claims rose slightly to 210,000 for the week that ended Oct. 21, yet remained in ultra-low territory.

Perhaps one of the most interesting shifts in the market’s thinking is taking place in the market-implied expectations for the Federal Reserve’s next policy moves.

After Thursday’s GDP report, fed funds futures traders pulled back a bit on the chances of another rate hike by December and have pushed up the likelihood of a Fed rate cut occurring by next May — despite the central bank’s mantra of higher-for-longer interest rates. They also now see a 96% likelihood that the fed funds rate target will drop to 5%-5.25% and even lower by the end of 2024.

Meanwhile, the 3-
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and 5-year Treasury yields
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led Thursday’s decline in rates as U.S. stocks
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also traded mostly lower.

Thursday’s “blowout” GDP report “should actually be pushing yields higher, all things equal, and there may be a bunch of reasons why that isn’t the case,” said Zaccarelli of Independent Advisor Alliance. One is that the bond market may also be reacting to a reduced likelihood of a government shutdown this year, following House Republicans’ installation of a new speaker, he said.

At FHN Financial in New York, chief economist Chris Low said many economists are already “dismissive” of the third-quarter GDP report and see it as a “fluke about to fade.” However, “it is too early to take slower growth for granted” and “growth this strong does not force a rate hike next week, but it means the Fed will indicate it is still contemplating higher rates,” he said in an email.

Economists Lindsey Piegza and Lauren Henderson at Stifel, Nicolaus & Co. in Chicago said that “further rate hikes may be warranted” should inflation still be a concern. Meanwhile, Quincy Krosby, chief global strategist for LPL Financial in Charlotte, N.C., said that higher rates have not yet impacted consumer spending, and “the Fed’s job isn’t done and it does not appear that higher interest rates are doing the job for them.”