Cuts are certain, but Fed will remain 'quite cautious': Strategist

The Federal Reserve will conclude its two-day policy meeting on July 31 with a potential decision on interest rate cuts. While most on Wall Street believe central bank policy will remain unchanged in July, many are betting on a first cut coming in September.

Newton Investment Management global bond portfolio manager Jonathan Day joins Catalysts to give insight into Treasury yields, potential movements from the Fed, and the broader market.

Day argues that the Fed will cut interest rates but will remain cautious as it does so: "If you roll back to December last year, we were in a very familiar situation, six rate cuts priced in, and I think the Fed will be very, very cautious about kind of playing up to the market expectations of that because, again, what happened in January and February of this year, whereas those rate cuts got priced in, the economy started turning around, got that inflation spike in Q1 as well, so the market does react to rate rate cut expectations and where expectations where rates will be in 12 to 18 months time. So, for me, the Fed will still remain quite cautious."

For more expert insight and the latest market action, click here to watch this full episode of Catalysts.

This post was written by Nicholas Jacobino

Video Transcript

Treasury yields pairing earlier gains after June's job openings came in slightly higher than what the street had been expecting.

At 8.18 million now, the prior month reading was revised higher.

That was up to 8.23 million.

We are seeing a bit of a pairing of those earlier gains with this data.

Why it is so critical as it comes ahead of the Fed's interest rate decision tomorrow.

Now the bank is a largely expected to hold rates steady.

But investors, of course, are going to be listening for any his from Fed chair Jay Powell on the path of monetary policy going forward.

So joining us now to jump into all that we want to bring in Jonathan Day.

He's new in investment management, is a global bond portfolio manager and and Jonathan, it's great to talk to you.

And when when we see the moves that have been coming out from the bond market, they have been largely had, Uh, I think widely speaking of, of the rest of the market, in terms of the feds, expectations of what we're likely are going to hear the timing of that rate cut.

I'm curious what you think has already been priced in versus the likelihood of what we will more realistically hear from Fed Chair J Powell tomorrow.

Yeah, that's a good question.

I mean, up until probably early part of last week, we had, say, 23 rate cuts priced in over the next couple of months and given where inflation is given, where the jobs market is.

And, as you just said again, the evidence a couple of minutes ago in terms of it's a slow decline, not a serious decline, which then really means that, yes, the Fed will be cutting rates and anyone, anyone doubts they will be cutting rates in the next couple of months and probably in September.

Um, but that pace, I think it is still very much open to debate.

Um, and we need a little bit more so, really, Towards the end of last week, we kind of got a bit more declined yields, and that was really on the back of of the equity market.

Whing Certainly the kind of the tech stocks, Um, and that's when especially given where inflation is now, um, where the Fed are kind of previous form.

Um in cutting rates and cutting rates, perhaps more than the market expects.

But we need more, I would say to get to get to the Fed, to get very, very optimistic in cutting rates.

And again just early today, we about to kind of six rate cuts for, uh, for the for the next 12 months.

Uh, if you rolled back to December last year, we were a very familiar situation.

Six rate cuts priced in um, and I think the Fed will very, very cautious about kind of playing up to the market expectations that because again, what happened in January and February of this year, whereas those rate cuts got priced in the economy started and turning around to that inflation spike in Q one as well.

Um, so the market does react to rate rate, her expectations, and where expectation to where rates will be in 1218 months time.

So for me, the Fed will still remain quite cautious.

And unless we get some new, uh, negative news, which still doesn't seem that apparent, well, let's talk about the potential negative news while we've got you, Jonathan, because, you know, you know that the has been known in the past to respond to significant equity market weakness.

And we got these big slew of big tech earnings on our plate for the next couple of days here.

If the big tech earnings don't deliver, does that cement this rotation narrative?

And therefore, does that lead to a question mark from the Fed?

It all depends about the market reaction, because that and that's the key thing, because certainly from year's perspective, equity markets equity wealth is very, very important to man and woman on the street.

Um, so the Fed is ultra sensitive to it, Um, but remains to be seen.

The jury's still out and and what's gonna happen next?

But I think we have to be.

We have to be careful.

We have to be mindful that that is a possibility and given where position is in equities as well, especially in in tech stocks.

So it it is a possibility.

It's not a central case, Um, but it is a possibility, and the market said towards the end of last week the market was coming round.

A little bit of that, um, but we're still a long way from that.

The best way to do it.

Just keep looking at the actual day to which inflation is getting a lot better.

Uh, it was not a target, but getting better.

And the labour market is slowly declining.

But but not terminal, so that just all those points lead to a a slow decline in interest rates for cautious feds making sure they don't cut too quickly because they because that that inflation genie still hasn't disappeared.

Jonathan, judge us about the risk of cutting too quickly or or the, uh, pace of those cuts.

What is your reading?

Even beyond this first cut, we can talk until we're blue in the face about what exactly the timing is going to look like, whether or not it's gonna come in in September or if it's not gonna come until right before the end of the year in December.

But looking ahead to 2025 what do you think is most realistic here in terms of the pace of those cuts and then just broadening it out even beyond the US and beyond the Fed?

Maybe what?

This signals more broadly to the central banks, as you have the Bank of England and bank of Japan here with their decisions coming up this week as well.

You know, they all central banks are still very wary of that.

As I say that in that inflation problem, um, that the direction is is obviously great and, um, central banks feel a lot more comfortable, but they're still going at the back of their minds are gonna still be very worried.

And as I said, Q one of this year on the backer rate expectations coming down very, very quickly in November, December last year just shows us actually, the economy can, um, react quite quickly to a much more gentle, uh, nice interest rate environment.

So that is always at the back of all, not just the Fed fed, the feds, feds mind all central banks and thinking perhaps a little wider a field in those countries where mortgage markets are much more closely linked to kind of short data.

Short, short end rates.

Mortgage markets can quickly turn around as as rates come down, mortgage costs come down, housing markets start picking up, so central banks will still be quite cautious.

Um, they need they need something else to really accelerate that pace.

But at the same time where inflation is the direction of inflation does mean the ultra tight monetary policies we've got at the moment, perhaps not quite as needed.

As much needed as they have been for the last, um, kind of 18 months, two years.