Key takeaways
As anticipated, the Federal Reserve (Fed) held interest rates steady at its July meeting.
The Fed’s policymaking Federal Open Market Committee (FOMC) hasn’t changed interest rates since July 2023.
Markets anticipate that the FOMC will in September likely cut the fed funds rate it controls for the first time since 2020.
It’s been more than one year since the Federal Reserve (Fed) last changed the target interest rate it controls. At its latest meeting ending July 31, 2024, the policymaking Federal Open Market Committee (FOMC) once again left the fed funds rate unchanged, in a range of 5.25% to 5.50%. A series of rate hikes initiated in early 2022 in response to soaring inflation raised the fed funds target rate to its current level from near zero percent. With signs of inflation continuing to slow, markets now anticipate that at the next FOMC meeting in mid-September the Fed will cut rates for the first time since 2020.1
“Investor expectations have really consolidated around a rate cut being priced into the Fed’s September meeting,” says Bill Merz, head of capital markets research at U.S. Bank Wealth Management.
“Investor expectations have really consolidated around a rate cut being priced into the Fed’s September meeting,” says Bill Merz, head of capital markets research at U.S. Bank Wealth Management. “We’re seeing signals from asset prices confirming a broader, gradual deceleration of the fed funds rate as well as a focus on global rate cuts,” from other central banks.
Fed Chair Jerome Powell, in prepared remarks after July’s FOMC meeting, was non-committal about the timing of rate cuts. According to Powell, “We do not expect it will be appropriate to reduce the target range for the federal funds rate until we have gained greater confidence that inflation is moving sustainably toward 2%. The second-quarter’s inflation readings have added to our confidence, and more good data would further strengthen that confidence.”2 Later, in answer to a reporter’s question, Powell came close to confirming the market’s view that a rate cut could come as early as September. “The broad sense of the [Federal Open Market] Committee is that the economy is moving closer to the point at which it will be appropriate to reduce our policy rate,” Powell said, referring to the fed funds target rate.3
The Fed considers several inflation measures. The most publicly quoted by news outlets, the Consumer Price Index (CPI), has declined considerably, from more than 9% for the 12-month period ending June 2022, to 3% for the 12 months ending June 2024. Changes in the inflation rate slowed considerably in the past year.
In the meantime, there are other signs that the economy remains on a steady course. It added more than 200,000 jobs in June, and the number of available jobs continue to outpace the number out-of-work Americans looking for a job.4 While Powell indicated the Fed is keeping a close eye on the strength of the labor market as it assesses interest rate policy (maintaining “maximum employment” is part of its mandate), the latest data looks favorable. “There are no red flags right now,” says Rob Haworth, senior investment strategy director for U.S. Bank Wealth Management. “Jobs reports will be closely watched, but lots of data shows us this is still a decent labor market.”
Equity and bond markets performed well prior to and following release of the FOMC’s July decision to continue to hold the line on interest rates, at least until September. Stocks, as measured by the benchmark S&P 500 Index, gained more than 1.5% on the day of the Fed’s announcement.5 Bonds rallied as well, with the 10-year Treasury yield dropping to 4.09%, its lowest level since March 2024.6
Markets soared early in the year in anticipation that Fed interest rate cuts would begin sooner and happen frequently over the course of the year. However, as it became clear that rate cuts weren’t imminent, markets backtracked. Following a first quarter 2024 gain of more than 10%, the S&P 500 retreated more than 4% in April. Stocks bounced back since, with the S&P 500 up more than 15% through 2024’s first seven months. Similarly, yields on 10-year Treasury bonds, which rose to a peak of 4.70% in April, have declined now to 4.09% at July’s close as investors anticipate pending fed funds target rate cuts.
The CME FedWatch Tool, which analyzes the probabilities of fed fund rate changes based on interest rate trader actions, indicates a high likelihood that the first Fed interest rate cut, of 0.25%, will occur at the FOMC’s September meeting. A smaller majority of these traders anticipate a second rate cut at the November meeting, and an additional cut in December.1 Note, however, that unexpected changes to economic data could rapidly alter this outlook.
“The Fed is very aware of what the markets are saying,” says Haworth. “There is pressure on the Fed to send signals that are properly interpreted by the markets, to avoid any surprises in its rate-cutting approach.”
Dating back to the financial crisis of 2008, the Fed has routinely purchased bonds to bolster market liquidity. However, starting in March 2022, the Fed began reducing its bond holdings. In June, the Fed adjusted its policy, slowing the reduction in its Treasury holdings from $60 billion per month to $25 billion per month. The Fed continues to trim its holdings of mortgage-backed securities by $35 billion per month. “It appears the Fed is more focused on trying to work off its book of mortgage-backed securities,” says Haworth. The Fed’s balance sheet of asset holdings grew to just under $9 trillion in early 2022. It’s now dropped to less than $7.25 trillion.7 “It seems unlikely the Fed will drop its balance sheet back to the $4 trillion level, as it stood in 2015-16, but given the extent the economy has grown since then, a larger Fed balance sheet may be justified,” says Haworth.
Despite significant Fed monetary tightening, the U.S. economy remains resilient, and it appears that the Fed expects growth to continue. First quarter 2024 annualized Gross Domestic Product (GDP) growth came in slightly lower than expectations, at 1.4%, but second quarter GDP doubled that pace, expanding at an annualized rate of 2.8%.8 “The consumer is still hanging in there,” says Freedman. “However, the environment may be getting a little tougher for lower-income consumers.” Notably, FOMC members, in its most recent estimate, anticipate that GDP will expand 2.1% over the year.9
Be sure to consult with your financial professional and review portfolio positioning to determine if changes might be appropriate given your goals, time horizon and feelings toward risk in today’s evolving interest rate environment.
Monetary policy is controlled by a nation’s central bank, which in the United States, is the Federal Reserve (Fed). The Fed’s management of monetary policy can have a significant impact on the shape of the nation’s economy. Congress’ mandate for the Fed is to maintain price stability (manage inflation); promote maximum sustainable employment (low unemployment); and provide for moderate, long-term interest rates. Fed monetary policy influences the cost of many forms of consumer debt such as mortgages, credit cards and automobile loans.
The Fed is the nation’s central bank, and perhaps the most influential financial institution in the world. The central governing board of the Federal Reserve reports to Congress, with the chair of the Federal Reserve appointed by the President. There are also 12 regional federal reserve banks that are set up like private corporations.
The Federal Reserve’s Federal Open Market Committee (FOMC) sets a target interest rate policy for the federal funds rate. This is the rate at which commercial banks borrow and lend excess reserves to other banks on an overnight basis. The fed funds rate is raised or lowered usually to help impact underlying economic conditions. For example, in 2022, as inflation surged, the FOMC began raising interest rates to make borrowing more expensive and slow economic activity. That strategy was designed to ease pricing pressures and reduce the inflation rate. In periods when the economy is slow or in a recession, the Fed tends to lower rates to try to stimulate economic activity and help the economy expand again.
As interest rates change, learn what the ripple effects across capital markets may mean for investors.
With the Federal Reserve poised to cut interest rates, what opportunities does this create for bond investors?
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