Investors are confident that the Federal Reserve will cut interest rates by the end of its September meeting.
On Tuesday morning, markets were pricing in a 100% chance of a rate cut in September, according to the CME FedWatch Tool. A month ago, the odds were 70%.
The increased confidence comes after better-than-expected inflation in June, combined with signs of further cooling in the labor market. In short, economists and investors have taken the data as a sign that the Fed will start cutting interest rates once inflation gets closer to the Fed’s 2% target.
“Recent data have shown continued softening in the labor market and a significant cooling of inflationary pressures, particularly in the very important shelter category,” Deutsche Bank Chief Economist Matthew Luzzetti wrote in a July 12 research note that included a forecast for a rate cut in September. “These developments should have a material impact on the outlook for monetary policy.”
Fed Chairman Jerome Powell said Monday that recent data has “somewhat” added to the central bank’s confidence that inflation is coming down to target. However, the Fed chairman declined to specify what exactly that means for when the Fed will cut rates.
“I’m not going to give any signals about a specific meeting,” he said. “We’re going to make these decisions on a meeting-by-meeting basis and the evolving data and the balance of risks,” Powell said during an interview at the Economic Club of Washington.
Regardless of when the cut comes, investors are now confident that the path forward for interest rates is lower. Further confidence that those cuts are coming soon has led to a broad rally in the stock market.
The most popular market segments of the past year underperformed as investors focused more on sectors outside of technology.
The Roundhill Magnificent Seven ETF, which tracks the group of big tech stocks that led the 2023 stock market rally, has fallen more than 3% over the past five days. Meanwhile, real estate (XLRE) and industrials (XLI), both interest-rate-sensitive sectors, have been the market’s biggest winners over the same period, up about 5%.
The small-cap Russell 2000 (RUT) index has risen more than 10% to hit its 2022 high for the first time during the current bull run.
“If this trade continues and there is still a rate cut in the pipeline for this fall, the bull market could finally be awakening. That’s good news for all investors,” Callie Cox, chief market strategist at Ritholtz Wealth Management, told Yahoo Finance on Monday.