THE FED NEEDS TO CUT RATES QUICKER?

The ECB's been cutting like they're getting ready for a bodybuilding competition, while the Fed is still bulking like it's the off-season. We've seen Trump putting pressure on Powell to start cutting rates as soon as possible too. One might think cutting rates when there's no immediate recession risk is a stupid decision, but one would need to think again. In fact, precautionary rate cuts in ’86 and in ’95 have been a huge boost for markets. So, Trump pressuring Powell to cut rates might be justified. He's not required to listen, though.

I’ll be honest here, the Fed has a bunch of very intelligent economists working overtime to figure out their next policy moves, but it's not like they're sharing their notes with us. So, we have to do our own humble investigation. First of all, the historical occurrences that we can take as data points are too limited to form a true statistical conclusion, but we make do with what we have. You can’t deny the limited data available though. There’s also this saying too: it’s easier to prevent something than to heal from it. The same might go for recessions. 

Does it not sound logical that preventing a recession from occurring in the first place is much better than healing from the consequences of a recession? That said, I do think Powell and co. have actually done an incredible job stabilising the markets, he deserves the applause. However, in my extremely, extremely humble opinion, a few precautionary rate cuts might be in order now. Take a look at the chart below, where I’ve added the rate cuts alongside the YoY returns of the S&P 500.

Precautionary cuts have yielded some very welcoming returns in the markets. On the other hand, reactionary cuts have frequently just plainly been too late, and the market tanks regardless.

I do think, though, that the health of the US economy is not just rainbows and sunshine, far from it. Markets expected, and priced in, some large improvements in PMI's that never materialised, and lo and behold, it was a big drop in stock prices we witnessed as a result (combined with the tariffs of course). See the discrepancy below between the S&P 500 returns and the US manufacturing PMI. Now, we've seen quite the recovery in price again, but does the recovery come with a fundamental backdrop that makes sense? And while I called the bottom out of a technical and sentimental framework here, if we look at it differently, there’s not much positive data for a continued uptrend.

Unless? The Fed starts easing a bit with a rate cut or two... However, there’s a reason as to why the Fed is slow in doing so, they don’t want inflation ramping up. Which is a valid reason, sure, but it’s sitting at 2.4 percent for the US, and even Core PCE is nowhere near danger territory. It’s kind of where the Fed wants to see it? So, they’re in no rush, I guess. But that inertia to change anything in their current policy could easily cost them...

Not only is the PMI and the discrepancy in market expectations signaling a worsening economy, so is the US unemployment rate. While I do want to refrain from using sensationalist language, it’s the chart that makes me the most concerned. The dreaded crossover of the one- and two-year moving average... Note: the crossover always occurs before US recessions. You can imagine, if the Fed takes a bit too long to be decisive in their decision-making, it’d be very easy for them to fumble an obvious angle of attack here: with 25 bp cuts here and there.

It's an interesting observation to keep in mind. Based on CME's FedWatch, the market expects a 25 basis point rate cut only in September, which for some might be a bit too far off. I think an earlier cut would also be very welcome. Here's the table below:

Compare this with our very own ECB, who've been very liberal with their cuts.

With good reason too, the Eurozone manufacturing PMI has been floating below the 50 level since 2022. Consult the chart below. We could say we Europeans have been a bit quicker to act on this front. That’s something you can’t always say these days. But then again, can you really compare the EU’s economy with that of the US? There’s about an 80% difference in size so it does make sense for the ECB to act a bit faster in my opinion.

Being honest? There're are so many variables to take into account on whether a rate cut is in order or not, but based on a quick glance under the hood, time might be ticking. What do you think, does the US need a rate cut? Or should the Fed keep coasting and ignore Europe? Let me know!