The Fed’s Knife Comes Out and It’s a Big Cut – Now What?

September 20, 2024

By Robert Wiedemer

The Big Fed Cut Will Definitely Be a Boost to the Stock Market over the Next few Months

After much debate over whether the Fed would cut rates on their Wednesday meeting by ¼% or ½%, the Fed announced it had chosen the more aggressive ½% cut. But it still surprised me and a lot of other economists and market analysts. I had thought they would cut by ¼% now and ¼% at their November meeting. But clearly Fed Chair Powell wanted to send out the word that the Fed wants to be supportive of the economy and the stock market.

The effect on stocks was quite positive after a very volatile pre and post Fed meeting market on Wednesday. No one should try to explain why we had a negative close after the meeting followed by a huge rally the day after, even though I am sure many will try. The broader market doesn’t always make a lot of sense in the short run, especially on a daily basis.

What is important is that the Fed is now cutting rates and that will be a boost to the markets for the next few weeks and months. Will it be enough of a boost to offset the normal downtrend in the two months before a Presidential election? Certainly, it will in September and possibly in October. A rate cut of a half percent is a big deal for the market.

The Rate Cut Had Little Impact on the 10 Year Interest Rate

After the much bigger than expected rate cut, the 10 year rate actually increased, not decreased. The ETF that holds 20 year Treasury bonds actually fell 2% on Wednesday and Thursday.

Why?

As I have said so often, the rate that the Fed is cutting is the overnight rate, which is almost meaningless, except to banks. It does not affect the interest rates that everyone pays to borrow money for business or homes. The 10 year rate is driven by the bond market and unless the Fed changes its buying and selling of long term bonds changes in the overnight rate simply don’t matter.

So far, the Fed is not changing its rate of bond sales that much. It sold about $50 billion in August, which is less than in the past but still substantial. All those sales put upward pressure on long term interest rates.

Add to that the increasing amount of bonds that Congress is selling and there is significant upward pressure on interest rates. In fact, Congress borrowed $390 BILLION IN AUGUST ALONE. That’s almost as much as they borrowed in the ENTIRE YEAR IN 2015. What has helped keep rates down despite all that borrowing is the lack of demand for residential and commercial mortgages.

Again, No Recession Coming

Some analysts thought that the big rate decrease by the Fed indicated they were fearful of a recession. I don’t think so and even if the Fed was fearful, I’m not. When Congress borrows almost $400 billion in one month, that is so much economic stimulus that it almost impossible to have a recession.

To put that amount of stimulus in perspective, let’s compare ourselves to Germany. This year, the German Parliament is expected to borrow $18 billion. That’s about what we borrowed on ONE BUSINESS DAY in August. If you wonder why the German economy isn’t growing and we are, you need look no further than our comparative deficits.

On a final note, as I said earlier, I would expect that the 4th quarter will be significantly better than our current quarter for the stock market. The recent large rate cut and one more of a ¼%, which is likely before the end of the year, makes that forecast even more likely.