Fed's soft landing chances 'open' but 'increasingly narrow'

The S&P Global Composite PMI (Purchasing Managers' Index) preliminary print for July came out higher than expected at 55, with manufacturing PMI falling to 49.5 and services PMI rising to 56.

This new piece of economic data, relatively in line with expectations, shows more signs that inflation may be on the path to the 2% target goal the Federal Reserve is looking for. What does this mean for the economy and for investors?

JP Morgan global market strategist Hugh Gimber joins Catalysts to give insight into the recent PMI data and what it means for the Fed and for the broader market (^DJI, ^IXIC, ^GSPC).

"What this really tells me is that the path to a soft landing for the Federal Reserve is still open, but it is increasingly narrow because when we start to analyze all of this economic data that's coming through, what you're looking for is the perfect combination of growth holding up just well enough to keep the economy moving forward, but not too well, and reigniting inflationary pressures," Gimber says. "And so when we translate that into how we think the Federal Reserve will be moving over the coming quarters, I think the case for them to start lowering interest rates is quite clear at this point."

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

We've got you.

Gimber JP.

Morgan's global market strategist here.

He was great to have you on.

So I want to start on this PM, my friend, because I can kind of pick whatever narrative I want from the data.

It seems.

What narrative are you pulling from P I data today.

I think a mixed picture is a very good summary.

What this really tells me is that the path to a soft landing for the Federal Reserve is still open.

But it is increasingly narrow because when we start to analyse all of this economic data that's coming through, what you're looking for is the perfect combination of growth holding up just well enough to keep the economy moving forward, but not too well and reigniting inflationary pressures.

And so when we translate that into how we think the Federal Reserve will be moving over the coming quarters, I think the case for them to start lowering interest rates is quite clear.

At this point.

They've seen enough improvement in inflation.

They've seen enough of a weakening in the labour market data to be approaching that first rate cut.

But importantly, we think they move quite tentatively because you're certainly not looking at PM I data today services at 56 and saying this is an economy that needs immediately lower rates and sharply so.

So in my mind, 25 basis points a quarter is probably the right starting point for the Fed and only accelerating that once they get much weaker economic growth than the data is showing so far.

Do you think this data moves the needle for any Fed voting members who might have been still weighing the potential of a cut in July?

Even?

No, I personally think July is off the table.

There's just not really any need for the Fed to come out and surprise the markets.

At this point.

You look at how markets are priced.

They are more than fully priced for a move in September.

But it's a July decision I think would come as quite a shock.

If anything, the Fed might be worried about sending the signal to the market where people start saying, Well, hang on a minute, what does the Fed know that we don't so no need for them to be moving too quickly.

I actually think taking a slightly longer term perspective, When you look out now into how the markets are seeing the Fed move in 2025 there looks to be a little bit too much in the price.

Here.

You've got more than 100 basis points of cuts priced by just March.

That means that the Fed is gonna need to go by more than that once a quarter pace that I've laid out as my base case.

So certainly no cause alarm in the data today.

But it talks to this narrow path where Goldilocks has been the market story for the past few months.

It's helped the rally that we've seen in areas like Small Cap.

But ultimately our message is, with resilient growth comes resilient inflation and therefore this.

This combination of still booming GDP but with a continued softening in inflation to my mind is going to be a harder and harder one to achieve over the coming months.

We're going to need to see some further slowdown in economic activity to keep the Fed on track in terms of moving back to 2%.

So then you what does that tell us about where you're seeing opportunities?

It sounds like maybe there is some opportunity when we are seeing this rotation.

It does sound like maybe you think that there's still a way to go in that trade.

But are there better bets at this point than the small caps?

I think that's right.

So this could well be the first earnings season in five quarters, where you see positive earnings growth from what I'd call the S and P 493 when you strip out the mag seven, the rest of the market is finally poised to move back into positive earnings territory, so we do see good opportunities in broadening out across the US market.

But in my view, this is still a time to be focused on large versus small cap, and that comes down really to the interest rate exposure and how that differs across size.

So when you look at the S and P 500 only about 5% of outstanding debt is floating rate.

The majority of the large caps debt is parked well out into the future, even 2029 and beyond.

But compare that 5% of floating rate for small cap, where you've got close to 40% of outstanding debt as floating rate.

And so the perfect environment for small cap is one where growth holds up.

But interest rates fall quickly, and therefore you take away some of that debt refinancing pressure.

And that's where again, kind of kind of back to data that we're seeing at the moment.

I find it hard to combine a picture of still really solid growth and rapid rate cuts, which I think is what markets are getting a bit carried away on.

So for me, the rotation holds looking at broadening opportunities across the Epson B 500 but not yet the right time to be moving too far down the size spectrum.

All right, Hugh Gimber always great to get your insight.

Thanks so much for joining us, JP.

Morgan's global market strategist.