The stage is set for the Federal Reserve to cut interest rates Wednesday, and the stock market may just be positioning itself for a letdown. Last week, markets expected a quarter-point rate cut and were just happy that the Fed was starting the cutting cycle. Since then, stocks have ramped up to an all-time high, with the S & P 500 and the Dow Jones Industrial Average hitting fresh records during Tuesday’s session. .SPX YTD mountain S & P 500, YTD And fed funds futures now point a majority of traders seeing a half point cut. Even though most Fed officials and economists believe the central bank would start with a quarter point. As of Tuesday afternoon, the CME FedWatch Tool shows that traders are pricing in a 63% chance that the federal funds rate will be lowered by a half percentage point to 4.75% to 5% from the current 5.25% to 5.50%. That leaves the odds of a quarter-point reduction to a range of 5% to 5.25% at 37%. The theory a week ago was that a half-point cut would panic the market on the notion that the Fed knew something about the economy that the markets didn’t. But now we’ve gone from that fear to expecting a half point. According to JPMorgan traders in their Tuesday note, cutting by a half point would be more of a “clearing event” that would propel the market into gauging the impact of other factors, such as earnings and November’s presidential election. To them, it wouldn’t actually send the market into panic, but calm it by validating the market’s expectations for aggressive easing for 2024. The firm’s chief U.S. economist Michael Feroli also told CNBC’s ” Squawk on the Street ” earlier this month that the Fed should cut by a half point at this month’s meeting “We think there’s a good case for hurrying up in their pace of rate cuts,” the top economist said. On the other hand, the JPMorgan traders think that a cut of a quarter point would “add to market uncertainty,” meaning that we probably shouldn’t expect the market to keep building on its all-time highs with a quarter point. “If the Fed cuts just 25bp, the market would not only be forced to unwind Sept expectation, but also the aggressive easing priced in to the entirety of YE ’24 (120bps — > 100bp or 75bp),” the traders wrote in the note. “Essentially – the only positive outcome for markets in a 25bp scenario would be a string of stronger than expected labor market data over the next month (aka confirming the decision to only cut 25).”
