Published April 19, 2024
Markets have fixated on interest rates and the Federal Reserve’s monetary policy for the past few years. Rate hikes led to the stock market’s swoon in 2022. The end of those hikes brought a new rally in 2023 that carried into the first quarter of this year. Below is a great overview from the Wall Street Journal on how economists’ views of interest rates and the economy have evolved and where they currently stand. Investors remain obsessed by the timing of the initial Fed rate cut. That cut has been pushed out as economic growth has surprised to the upside as the charts below show.
First, the article reports that economists now believe there is little chance of a recession in the coming year. Here’s how those expectations have evolved followed by the WSJ piece.
“The Wall Street Journal’s latest quarterly survey of business and academic economists shows forecasters ratcheting up their expectations for economic growth, inflation and the level of future interest rates.
The following charts show how the economy, and economic forecasts, have evolved over recent months and years. After looking at the charts, see if you can guess how economists answered two questions about the relationship between politics, the economy and Federal Reserve policy.
Growth
Most economists thought that the Fed’s aggressive campaign to raise interest rates would do far more to slow the economy than it has.
Growth has outperformed expectations, based on a combination of government spending, increased immigration and resilient consumer demand. Workers are feeling confident enough about their jobs to keep up their shopping habits. Now economists generally don’t think the economy will get anywhere close to a recession over the next year.
Labor market
Job gains have also far exceeded forecasts, possibly owing in part to an immigration-fueled increase in population. Economists still expect a slowdown to come imminently, if only because businesses have exhausted the pool of available workers.
Inflation
In recent years, neither economists nor investors have seriously doubted that the Fed would succeed in bringing inflation down to its 2% target. The question has been what it would take to get there.
Economists, however, modestly increased their 2024 inflation forecasts, even before the latest round of hotter-than-expected price data. (The Journal survey concluded April 9, just before the March reading of the consumer-price index was released.)
Interest rates
For more than two years, economists have steadily lifted their interest-rate forecasts as growth showed little signs of slowing and inflation remained above the Fed’s 2% target.
An exception came in January, when economists forecast steeper rate cuts than they had three months earlier, confident that inflation was nearly conquered. This time, they have gone back to expecting a higher path for rates.
Roughly one-third of respondents in the most recent survey predicted that rates would end the year at 4.75% or higher, implying just two cuts—up from 11% in January.”
While awaiting the beginning of the Fed’s interest rate cuts, stock markets have been giving back some of the first quarter’s gains. Company outlooks thus far have been muted with investors typically selling even when companies are beating earnings forecasts. Next week is key as the big tech players report on their earnings and outlooks. Here’s what Barron’s observes:
“Tech earnings can still come to the stock market’s rescue but the early signs are far from encouraging.
Netflix, Taiwan Semiconductor Manufacturing Co. (TSMC), and Dutch chip equipment maker ASML have done nothing to improve the mood with their earnings in recent days. TSMC, the world’s largest chip maker, cut its growth forecast for the broader semiconductor industry Thursday, putting the sector under more pressure. ASML, whose machines are essential for manufacturing chips, reported new orders that fell short of expectations Wednesday.
Netflix looks unlikely to play the role of savior as its revenue outlook disappointed investors despite strong subscriber growth. Its plan to stop reporting subscriber numbers, a metric popular on Wall Street, will not help with visibility.
As of Thursday’s close, the S&P 500 is currently on a five-day losing streak, its worst run since October last year. A sixth day of losses is a possibility, particularly amid rising tensions in the Middle East after Israel retaliated against Iran overnight, although early Friday there had yet to be official confirmation.
But there’s still hope for a tech-led market rebound. It lies with everybody’s favorite market catalyst—artificial intelligence. As badly as the market reacted to TSMC earnings, the company signaled strong demand for its AI chips. It’s non-AI semiconductors, such as for autos and smartphones, that are letting the side down. AI and whether it can offset struggles in other areas of the tech sector may come to define this earnings season and determine whether the rally restarts. Next week could be key as several of the biggest AI players post earnings, including Microsoft and Alphabet. Meta, which released a new version of its AI chatbot Thursday, will also release results.
Anything connected to AI seems to generate increasingly lofty expectations, which Big Tech must overcome to get the rally back on track.”
Market Update
Since posting one of the best quarters in years, stocks have struggled, caught between a shift in interest rate expectations and heightened geopolitical uncertainty. Stocks opened the week in poor form, giving up an early +1% advance and limping into a -1.2% loss. The losses came despite a much better than forecast report on retail sales. Consumers continue to spend more than projected, fueling an uptick in GDP expectations for the quarter and keeping interest rates rising. Stocks traded flat Tuesday as Fed Chair Powell issued comments confirming the market’s outlook for rate cuts later than previously anticipated. Stocks resumed their slide Wednesday with a -0.6% dip. Bond traders now expect only a 16% chance the Fed will cut rates at their June meeting, dramatically lower than the 55% certainty registered in March. This shift has hammered rate-sensitive areas like smallcaps. Thursday delivered the fifth straight decline with stocks falling -0.5% on the Nasdaq. The drop came after another economic report showed robust activity. This time it was the Philadelphia Fed’s gauge of regional manufacturing leaping from March to April, its highest reading in two years. The strength in manufacturing pushed copper prices to their highest price in two years. Meanwhile, airlines posted better than expected earnings across the board lifting shares in that group this week. A widely divergent market Friday as weakness in semiconductors continued to pressure the Nasdaq (-2%) while the Dow Industrials were flat as financials caught a bid. An overnight Israeli strike on Iran unsettled markets before the open sending the VIX volatility index above 20 for the first time since October. But the weakness during the trading day was focused on tech and semiconductors in particular as investors have reacted negatively this week to earnings outlooks from chip equipment maker ASML and chip manufacturer TSMC. The semiconductor index is down over -9% this week. The S&P 500 ended up down 0.8% Friday while the Dow was up +0.5.
A tough week for high-flying tech shares as the Nasdaq 100 (QQQ) slumped -5.39% to wipe out much of this year’s gains for the index. The S&P 500 (SPY) tumbled -3.07%. Smallcaps (IWM) fell -2.79%.
Warm wishes and until next week.