The Fed: 0 To 100 In 3 Meetings?

Authored by Peter Tchir via Academy Securities,

There is no doubt the Fed is driving markets right now.

The only question remains, is are they driving an EV (fast acceleration) or a traditional ICE vehicle (slower off the line but builds up speed nicely).

Before exploring our take on the various scenarios (which we covered a bit in this weekend’s Great Debates T-Report) it is a good time to remind everyone in the New York area that Academy’s Geopolitical Roundtable (with a Macro and Credit focus) is fast approaching.  Please register here for the event on Thursday October 10th from 5:30 to 7:30 pm at Bobby Vans (230 Park Ave location) for drinks and heavy Hors D’oeuvres. With General (ret.) Spider Marks leading the engagement on the Geopolitical side. I will chime in on some macro and credit, along with our debt capital markets, syndicate and corporate bond sales and trading teams! Should be informative and a good way to catch up on the progress Academy has made in the space over the past year. Please do register because while the space is comfortable it is limited and the initial response has been strong.

Thanks, now back to the main event.

40% probability of 25 bps.

If the Fed stuck to their messaging and was truly data dependent they would only go 25 bps, but they seem to be indicating and getting pushed by the market to go 50).

• 45% chance of a “dovish” 25.  To offset the disappointment in “only” going 25 bps, the dots would become more aggressive than the last meeting. Hints that 50 were coming would come out in the dots, the announcement and presser. Possibly see even one dissent, arguing for 50 bps. Bonds and stocks wind up not doing a whole lot at the end of the day, unless the “dovish” message hits very loud and very clearly.

• 50% chance of a “neutral” 25. No dissents. Messaging about remaining “data dependent”. Some expression of concern about the potential to stoke inflation. The dots, while coming in more aggressive than the last time, push back significantly on the terminal rate and when we get there. Mild selling in bonds and stocks.

• 5% chance of a “hawkish” 25. To be honest, 5% chance seems too much, as it is difficult to imagine, regardless of what is delivered in the announcement and the dots, that Powell could remain hawkish the entire press conference. It is not his nature. Stocks and bonds would both sell off, meaningfully, but I am not worried about this scenario.

60% probability of 50 bps.

The markets are steering them in this direction. I thought they should go 25 in July, so I support 50, but it doesn’t seem in line with much of their official messaging. Ultimately 50 would tell us to listen to a certain reporter at the WSJ (and if they don’t go 50, his reports will become less of a fixation).

• 25% chance of a “dovish” 50.  In addition to going 50 at this meeting, the dots would become much more aggressive. Not just for this year, but for next year as well. Powell might have to come across strongly than the terminal rate is “well known” (I don’t think it is) and that they are committed to getting there now that they’ve started, UNLESS, the data stops them. Basically, the Fed would make it clear they are going with a “Punch It, Margaret!” moment. Bonds and stocks would rally hard! Stops would get taken out on the short side and the stage would be set for an extremely strong rally in the coming days as every bear gets forced out or capitulates.

• 40% chance of a “neutral” 50. I think this is trickier to navigate as the market likes “dovish” or “hawkish” and is less keen on finding “neutrality” so whatever is said, done, or printed, will likely be interpreted as either hawkish or dovish, at least initially. But if they can walk the tightrope, of data dependence, a balance of risks, etc., they can maybe convince the market they slow down appreciably after the first 50 bps. In the end I don’t think the market will listen (after all they just jumped/pushed into 50). Some initial wavering in stocks and bonds, but then “rally mode”. While the rally won’t be quite as strong as a “dovish 50” and will take more time to settle in, you would not want to miss this rally.

• 35% chance of a “hawkish” 25. They will try and balance the 50 bps with a LOT of talk about data dependency, the risks of inflation resurging, and will use the dots to aggressively signal the market is far ahead of itself. I suspect that if the Fed goes 50, there is a 75% chance that this is the message they think they deliver, but unless don’t very aggressively and overtly, most attempts will fall into the “neutral” take, which will eventually be upgraded to the “dovish” take, as the markets will now KNOW that the Fed can be pushed into faster cuts than their own messaging sends. Stocks and bonds sell off, maybe for a day or two, then we can start watching the data and earnings

With a lot already priced in, I think stocks and bonds have more downside risk than upside, though, the risk of a big move, seems to be skewed more heavily to the upside, based on the probabilities above.

I will be most closely watching:

• Any dissent. That would be their strongest tool in the announcement to present either a dovish 25 or hawkish 50.

• The dots in 2025 and beyond. They should move to 100 bps for this year, but the question is, where do they set the terminal rate and how long do they think it will take to get there? With the market pricing in sub 3% by the July 2025 meeting, there is a LOT of potential disappoint here, if the Fed uses uncertainty about the terminal rate both in the dots and the press conference (I think they should and will do that). I just think, that in a day or two, even if they are successful, the market will fixate on the fact that they could push them to 50.

• Data dependency and balance of risks in the press conference. Do they try and return some semblance of “balanced” risk? Probably not much, or more precisely, probably not too effectively, even if Powell tries, but the market could be disappointed on this front (the last bits of data haven’t been too bad, and Atlanta GDP now just got back to 3%, from 2% just a few weeks ago).

As always, we will send our interpretation of “what the heck just happened” after the press conference, and suspect that we will have several big moves and reverses today, as the market seems more divided on possible outcomes than we’ve seen in some time (and the tools at the Fed’s disposal, spread over the entire hour or so, from the time of the announcement, the dots, until the end of the presser!

Good luck, I re-iterate my wish that they Fed did this at 10 am EST, so we had less time to second guess ourselves, and I highly encourage those in the New York area to check out (and register) for the Geopolitical (with Credit and Macro) roundtable on the 10th!