What the Fed Missed at Its Latest Meeting

A pivotal event on the financial calendar passed last Wednesday, but I suspect many of you missed it.

Each quarter, the Federal Reserve releases a Summary of Economic Projections (SEP), in which the central bank’s top decision makers reveal their expectations for the unemployment rate, GDP and inflation.

But one section of the SEP tends to draw more attention than any other: the dot plot.

This is a diagram that shows where the Fed’s presidents and governors – including Fed Chairman Jerome Powell – believe interest rates are headed in the coming years.

Below, you’ll see a model of the Fed’s most recent dot plot, which was released last Wednesday. The blue dots in each column represent the federal funds rate projections from the Fed’s seven governors and the presidents of its 12 individual banks.

But we’ve added a fun twist for you…

To keep the Fed honest, we’ve added three more dots in each column to represent the expectations of three of our own Oxford Club experts: Chief Income Strategist Marc Lichtenfeld, Director of Trading Anthony Summers and Senior Markets Expert Matt Benjamin.

As you can see, our experts aren’t as optimistic as the Fed about future rate cuts.

Now, predicting where interest rates will land several years in advance is a fool’s errand. As we always say, we’re not in the business of market timing. But interest rates can have a significant impact on both the markets and the economy, so looking at the historical data and thinking ahead can be incredibly useful (and profitable!).

Marc, Anthony and Matt went into more detail on the thought process behind their predictions below…

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Marc Lichtenfeld

Chief Income Strategist

I don’t believe the Fed has garnered this much attention since CNBC used to try to guess the direction of interest rates by how full former Fed Chairman Alan Greenspan’s briefcase looked.

In the Annual Forecast Issue of The Oxford Income Letter in January, I went against the grain and said interest rates wouldn’t drop by much – if at all – in 2024 due to the lack of a recession and the potential for inflation to continue burning too brightly.

So far, that’s been the case. At the beginning of the year, the consensus was that there would be six rate cuts in 2024. Today, according to both the Fed’s dot plot and the federal funds futures market, that number is down to three.

But I don’t believe there will be any.

Inflation, while down significantly, is still not close enough to the Fed’s 2% target. February’s consumer price index reading was 3.2%. That’s not terrible, but it’s still far from the Fed’s goal.

I’ve said many times before that I don’t believe Powell wants to go down in history as the Fed chair who allowed inflation to reignite under his watch.

This year is also an election year. I don’t believe Powell wants to do anything that could be seen as politically motivated. A rate cut at this point would likely draw the ire of Donald Trump, who might accuse Powell of trying to slant the election in President Biden’s favor.

Lastly, there are currently no signs of a recession.

We are, however, approaching the first year of the presidential cycle, which is typically when recessions occur. There have been 10 recessions since 1948 (not including the COVID-19 recession, which was a black swan event). Of those 10, seven occurred during the first year of the presidential cycle.

The reason for this trend is the first year of a president’s term is the best year for him to make tough decisions, because he has three more years to win back favor with the electorate.

So I wouldn’t be surprised to see a slowdown in 2025, which could prompt the Fed to lower rates to around 4.75%-5%.

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Anthony Summers

Director of Trading

I think there’s a slim chance that the Fed cuts rates this year.

There are two main data points that strongly undermine the case for lower rates. The first and foremost is sticky inflation.

Over the past two years, the Fed has made great progress in taming inflation. From its June 2022 high of 9.1%, it’s down roughly two-thirds to 3.2%.

That’s still too high, though – about 60% higher than the Fed’s long-term target of 2%.

If inflation remains sticky, the Fed will have no reason to lower rates. In fact, that would strengthen the case for higher rates, especially given the economy’s current strength.

That brings me to the second data point: economic growth.

Last year, many analysts – myself included – were skeptical of the Fed’s “soft landing” talk. The economic data was far too mixed to suggest things were going smoothly.

However, our economy looks much stronger today than it did six months ago. To see this, let’s consider the average of real GDP and real GDI (gross domestic income).

Both GDP and GDI measure the total value of our economic output, although they calculate it differently. I favor the average of the two because it can give us a more accurate sense of our economy’s overall strength, especially when both GDP and GDI are moving in the same direction.

In the third quarter of 2023 (which is the last quarter for which we have real GDI data), the average of real GDP and real GDI rose by 3.4%. That was the largest increase since 2021, and it marked three consecutive quarters of real economic growth.

Strong economic data gives the Fed more leverage to raise rates, allowing it to continue fighting inflation without fear of pushing our economy into a recession.

The Bureau of Economic Analysis will release fourth quarter real GDI data this Thursday, March 28, along with its third estimate of fourth quarter GDP. I expect another strong report.

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Matt Benjamin

Senior Markets Expert

Predicting the course of interest rates is no easy task.

That’s because the Fed really is data-dependent. The Federal Open Market Committee (FOMC) will chart its course on interest rates based on the economic data that comes in… and the analysis of that data by the 400 Ph.D. economists it employs.

And because predicting what the economy will do is inherently difficult, making projections on interest rates is also tricky – and it gets increasingly difficult the further out in time you project. Therefore, my rate forecast is also largely based on what I believe the economy will do.

And keep in mind that any kind of unexpected supply or demand shock – like another COVID-19 flare-up, an oil price spike, etc. – would force us to throw all our projections out the window.

But assuming those things don’t occur, I’m optimistic about the economy for several reasons, including the robust labor market, rising consumer optimism and strong consumer spending, not to mention the surprisingly healthy state of households’ finances (I just looked at the amount of money in Americans’ checking accounts – wow!).

Those things should keep the economy and labor market humming through the end of 2024, and they’ll also keep inflation elevated above the Fed’s long-term 2% target.

For me, that says there will be few, if any, rate cuts this year. And three other factors suggest that the Fed will be reluctant to cut rates by more than 50 basis points before the end of 2024.

First, there’s the presidential election. Though the Fed is nonpolitical, Powell and his colleagues would like to stay out of the fray if at all possible. So, all other things being equal, they may want to wait until after Election Day to alter interest rates in any significant way.

Second, I think Fed officials would like to keep rates high – that way, they have some ammunition to use if (and when) there is an economic downturn or unexpected shock.

Finally, there’s the stock market. Though the Fed would deny this, it’s clear it has reacted to market downturns in the past with more accommodative monetary policy. But this bull market seems to need little help from Powell and company. In fact, even though futures traders have been paring back their expectations for rate cuts since mid-January, the market has continued its rally.

The FOMC will meet six more times this year. I see, perhaps, one cut by year’s end and moderate cuts over the next two years, with the federal funds rate eventually settling near the Fed’s long-term neutral rate, which neither stimulates nor restricts economic growth.

[Editor’s Note: Interested in getting more commentary like this? Send your questions to mailbag@oxfordclub.com!]