May Fed Meeting Brings Friendlier Tone but Same Message

In this article we review:  

• The statement and post-meeting press conference following the Federal Reserve meeting that concluded May 1
• Why we believe the Fed, despite its market-friendly tone, remains unlikely to cut rates until 4Q 2024
• Our view of longer-term rates and the future slope of the Treasury bond yield curve
• Our take on the April Nonfarm Payroll Report released shortly after the Fed’s meeting

The Federal Reserve’s May meeting concluded with no action taken on the current federal funds target range of 5.25%–5.50% and a somewhat less hawkish tone than many had feared. However, the committee’s key message was unchanged: Inflation remains too high and any upcoming rate cuts will be contingent upon future incoming data. With this in mind, we believe the following points are important for investors.

Lack of progress on inflation took center stage. In the Fed statement and Chair Jay Powell’s post-meeting press conference, the recent stalling of inflation’s downward trajectory received increasing emphasis. Added to the statement was the language, “In recent months, there has been a lack of further progress toward the committee’s 2% inflation objective.” In his post-meeting press conference, Chair Powell reiterated, “Inflation is still too high. Further progress in bringing it down is not assured, and the path forward is uncertain.” Both of which serve to confirm, in our view, the Fed is unlikely to reduce rates any time before the autumn months nor prior to the pace of core inflation displaying a tangible retreat.    

Chair Powell’s comments regarding a potential rate hike drew a great deal of attention. In suppressing emerging fear in the markets that the next move by the Fed could be a rate hike, Chair Powell stated directly, “I think it’s unlikely the next policy move will be a hike … That (persuasive evidence to support a rate hike) is not what we think we’re seeing.” While this was initially reported as a major development, we had not attributed a measurable probability to an upcoming rate hike and consider Chair Powell’s response to the question as being a welcome confirmation of such. 

Pace of quantitative tightening was reduced. As previously signaled at the March meeting, the Fed took policy action on the pace of quantitative tightening to its balance sheet. Specifically, the committee announced a monthly reduction of its Treasury bond roll-off pace to $25 billion from its previous amount of $60 billion. While not unexpected nor necessarily market moving, all else being equal, this slower schedule over time could help increase liquidity and potentially ease some degree of upward yield pressures in the bond markets.     

April employment report well received by the market: Consistent with previous comments following the March meeting, Chair Powell referenced potential policy action stemming from the other half of the Fed’s dual mandate by saying, “We’re also prepared to respond to unexpected weakness in the labor market,” perhaps helping to explain a very strong and favorable market reaction to the April Nonfarm Payroll Report released May 3. Displaying weaker than expected job gains of 175,000 (versus consensus forecast of 240,000), this report was also accompanied by a lighter than anticipated, year-over-year average hourly earnings increase of 3.9% (versus 4.0% consensus). We caution against reading too much into this employment report as we still view April’s job gains as quite strong by historical standards and the lower wage growth as incremental in nature.        

In summary, while the overall atmosphere of the meeting and press conference appeared more market friendly than most expectations, the bottom line remains that the Fed will need to see core inflation rates decline before acting on prospective rate cuts. In our judgment, this likely translates to consumer price index and personal consumption expenditures core rates of inflation averaging below 3% on a combined basis. We still see this as achievable by year-end and therefore maintain our forecast of a 4.75%–5.00% year-end target range on the fed funds rate based on two quarter-point rate cuts in the final months of 4Q. We also see the Treasury bond yield curve dis-inverting to a flat slope and therefore the 10-year Treasury rate also concluding the year at approximately 4.75%. 

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