Fed speaks, Wall Street celebrates...then reality of slower economy sinks in

I occasionally look at the stock indexes while working, and around 1:15, I noticed that there had been quite a turnaround.

Huh, what happened around 2 pm Eastern?

The Federal Open Market Committee on Wednesday said it will hold benchmark interest rates unchanged at between 2.25% to 2.5%, marking the second straight pause on rate increases. This decision been widely expected by market participants.

The Fed’s latest dot plot, a chart showing each of the FOMC members’ target interest rates for the near- and long-term, pointed a median of zero rate hikes in 2019. This is lower than the two rate increases in 2019 suggested in the December dot plot, the last time the projections were released.

The FOMC also said in a separate statement that it expects to “conclude the reduction of its aggregate securities holdings in the System Open Market Account (SOMA) at the end of September 2019,” referring to its balance sheet normalization process.

Both of these items indicate that money won’t be tightened in the near future. And sure enough, longer-term interest rates took a dive, especially the benchmark 10-year note.

If you look at the Fed’s statement on their interest rate decision, while they talk a nice game about a balanced economy with continuing growth, you can tell they’re seeing some weakness.

Information received since the Federal Open Market Committee met in January indicates that the labor market remains strong but that growth of economic activity has slowed from its solid rate in the fourth quarter. Payroll employment was little changed in February, but job gains have been solid, on average, in recent months, and the unemployment rate has remained low. Recent indicators point to slower growth of household spending and business fixed investment in the first quarter. On a 12-month basis, overall inflation has declined, largely as a result of lower energy prices; inflation for items other than food and energy remains near 2 percent. On balance, market-based measures of inflation compensation have remained low in recent months, and survey-based measures of longer-term inflation expectations are little changed.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. In support of these goals, the Committee decided to maintain the target range for the federal funds rate at 2-1/4 to 2-1/2 percent. The Committee continues to view sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective as the most likely outcomes. In light of global economic and financial developments and muted inflation pressures, the Committee will be patient as it determines what future adjustments to the target range for the federal funds rate may be appropriate to support these outcomes.

I read that and I wonder if the Fed is a bit behind the curve on the inflation. Those lower energy prices are based on what they looked like at the start of 2019, when gas was below $2 a gallon. It’s risen more than 50 cents in my neighborhood since then, and oil futures hit $60 today for the first time in several months, meaning gas will likely continue to climb in the near future.

If inflation heads back toward the 2.5%-3% range that we saw for much of 2017, the Fed is going to have a problem. It will become stuck between keeping prices in check while not ending the Bubblicious party that’s been going on over the last 3 months on Wall Street, and turning the “slow” economy into an all-out recession.

Fed Chair Powell publicly claimed after the meeting that “all was well.”

“The U.S. economy is in a good place, and we will use our monetary policy tools to keep it there,” Powell said in press conference Wednesday. “It’s a great time for us to be patient and watch and wait to see how things evolve.”

But the Fed’s own report had them lowering GDP growth now, and for the future.

Powell’s fear of a Trump Tantrum probably kept him from outright admitting that our ongoing economic expansion is sputtering, but the bond markets sure seem like they know a downturn is coming. While the 10-year was shedding more than 8 basis points today, the 3-month note nudged up by a point.

These two fixed-income securities are now only 6 points away from each other, and history shows that when the 10-year inverts below the 3-month note (the red line on this chart), recessions follow.

Coked-up Wall Streeters may have liked the statement from the Fed today when they first heard it, but the rest of us should see major warning signs flashing. And given that the market couldn’t hold that sugar high following the Fed announcement, I think even the coke fiends know the party might be ending soon.