Over the past week, markets were keenly focused on macroeconomic events from the Federal Reserve (the “Fed”) and the U.S. Treasury (the “Treasury”) amidst a flurry of mega-cap earnings. At the January Federal Open Market Committee (FOMC) meeting, the Fed kept rates unchanged, as expected, removing its hiking bias and struck a more neutral tone.1 At the presser, Fed Chair Powell pushed back against a March rate cut, and subsequently, the odds fell to ~35% after being north of 70% following the December FOMC meeting (Exhibit 1).2 However, given the backdrop of resilient growth and inflation trending toward target, we expect the Fed will still cut at some point between March and June. In addition we received the Treasury’s quarterly refunding announcement. Within the statement, it updated its quarterly borrowing estimates below market expectations, and refined its quarterly auction sale outlook higher, in-line with consensus. Importantly, it noted that additional increases have likely concluded.3
Considering the Fed’s rate easing bias, quantitative tightening (QT) tapering potentially starting in the spring or summer, and better-than-expected Treasury supply forecasts, yields likely remain capped with equities support amidst a soft-landing realization. We continue to like our top ideas outlined in our 2024 U.S. and International Market Outlooks.
Federal Reserve on hold but likely for just a bit longer
Three key points emerged from the January FOMC meeting:
1. The Fed dropped its tightening bias and explicitly mentioned conditions for reducing its target range. Specifically, the Fed removed “the extent of any additional policy firming” from the policy statement and included that “the Committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward two percent”.4 This suggests that it is now a matter of when the Fed will cut rates, given its acknowledgement of how the risks to both employment and inflation are “moving into better balance”.5 Indeed, year-over-year (YoY) core PCE inflation is now below 3% for the first time since April 2021 and is below 2% on a three-month and six-month annualized basis (Exhibit 2).6
2. Powell pushed back against a March rate cut. During the presser, Powell reiterated the word “confidence” and notably said that he was not sure the committee would “gain enough confidence” on inflation to start cutting rates at its March meeting.7 However, we will receive a number of key data points between now and then – including key inflation reads on Feb. 13, Feb. 29, and Mar. 12.8 Indeed, if core PCE inflation runs at or below +0.2% month-over-month over the next five months, that would imply an annualized rate of +2.1% or less by May.9 This should continue to support the odds of the Fed beginning to cut rates at some point between the March and June meeting.
3. Powell acknowledged that the committee had a conversation around slowing the pace of QT at its January meeting. Coming into the January meeting, there were questions of whether the Fed would address the run-off of their balance sheet, or QT. The Fed did not change the QT portion of its statement but Powell noted they would have a more in-depth conversation on the topic at the March meeting.10 This aligns with market expectations that the Fed could start to slow the pace of QT from $60 billion to $30-$45 billion at some point this spring/summer.11 Greater Fed demand for Treasuries should be help restrict any moves higher in yields.
A better-than-expected refunding announcement is a net positive for yields
We also received an update from the Treasury regarding its quarterly refunding plans and marketable borrowing estimates for the February to April 2024 quarter (fiscal first quarter 2024), which, on net, was viewed positively by markets. Treasury borrowing estimates of $760 billion and $202 billion for the first and second quarters, respectively, came in lower than consensus and the Treasury’s previous forecast.12 This was due to higher cash balances and the expectation for a marginally better near-term fiscal picture
The Treasury also announced increases to its quarterly refunding auction estimates, which were in-line with the prior quarter’s increase, and noted that it does not expect further increases “for at least the next several quarters.”13 Across the key tenors – three, 10 and 30-year Treasuries – the Treasury sees upcoming February auctions sizes increasing to $121 billion from $112 billion at the November auction, with most of the heavy lifting throughout the quarter continuing to be done at the front-end of the curve (Exhibit 3).14
If the Fed begins slowing QT around the May meeting, as the market currently expects, that could result in the Treasury needing to finance $150 billion less in 2024.15 This would be marginally supportive to the supply picture which is currently expected to increase by roughly $800 billion in 2024 to $1.8 trillion.16 However, the Treasury is still going to have to contend with growing fiscal deficits over the medium- to longer-term which may keep auctions sizes and supply needs elevated.
What does all of this mean for markets?
The good news for now is that with rates stabilizing and central banks clearly showing signs of easing, demand for Treasuries should further return to help absorb the increases in supply. Together, these factors should ease upward pressures on yields across the curve. Capped yields and the continued soft landing narrative realization should, in turn, support equities. All in, the latest round of macro data adds support to our thesis where we continue to see broadening opportunities. Please see our 2024 Market Outlook for our top ideas.
1. Bloomberg, Federal Reserve, iCapital Investment Strategy, as of Jan. 31, 2024.
2. Bloomberg, iCapital Investment Strategy, as of Jan. 31, 2024.
3. Bloomberg, U.S. Treasury, iCapital Investment Strategy, as of Jan. 31, 2024.
4. Federal Reserve, Federal Open Market Committee Policy Statement, iCapital Investment Strategy, as of Jan. 31, 2024.
5. Federal Reserve, Federal Open Market Committee Policy Statement, iCapital Investment Strategy, as of Jan. 31, 2024.
6. Bloomberg, iCapital Investment Strategy, as of Jan. 31, 2024.
7. Federal Reserve, Federal Open Market Committee Policy Statement and Meeting, iCapital Investment Strategy, as of Jan. 31, 2024.
8. Bloomberg, iCapital Investment Strategy, as of Jan. 31, 2024
9. Bloomberg, iCapital Investment Strategy, as of Jan. 31, 2024
10. Federal Reserve, Federal Open Market Committee Policy Statement and Meeting, iCapital Investment Strategy, as of Jan. 31, 2024.
11. Bank of America, Goldman Sachs, iCapital Investment Strategy, as of Jan. 8, 2024.
12. Bloomberg, U.S. Treasury, iCapital Investment Strategy, as of Jan. 29, 2024. Note: Consensus expectations is based on the average forecast across Goldman Sachs, Morgan Stanley, JPMorgan, Bank of America, and Bloomberg Intelligence.
13. Bloomberg, U.S. Treasury, iCapital Investment Strategy, as of Jan. 31, 2024.
14. Bloomberg, U.S. Treasury, iCapital Investment Strategy, as of Jan. 31, 2024.
15. Goldman Sachs, iCapital Investment Strategy, as of Jan. 12, 2024.
16. Goldman Sachs, iCapital Investment Strategy, as of Jan. 19, 2024.
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