At its final meeting, the Federal Open Market Committee (FOMC) voted to reduce the Federal funds rate by 0.25% to a target range of 4.25%-4.50%, cutting rates by a 100 basis points (bps) or 300bps annualized in 2024. However, forward guidance via the Summary of Economic Projections (SEP) suggests a shallower path of rate cuts next year. Moreover, the statement tilted hawkish suggesting the Fed will pause cutting at its next meeting and wants the optionality to not have to cut rates at all next year depending on how the data evolves. Altogether, why did the Fed shift hawkishly?

Updates to the SEP argue for less rate cuts next year and suggest arguably a no-landing scenario forecast rather than a soft landing: 

• Real GDP growth projections were upgraded to 2.5% this year, 2.1% in 2025 and reaches trend growth of 2% by the fourth quarter of 2026. 
• Unemployment rate projections were nudged lower to 4.2% and 4.3% in 2024 and 2025, respectively and remains at 4.3% through 2027.
• Both headline and core PCE projections were raised to 2.4% and 2.8% in 2024 and to 2.5% in 2025 before normalizing to 2.0% by the fourth quarter of 2027. 
• The committee slashed its median policy rate projections (dot plot) signaling just two rate cuts next year, down from four rate cuts at its September meeting. Long run Fed funds rate projection was also raised to 3.0% from 2.9%.

The impressive resilience of the US economy is clear with growth tracking ~3.0% q/q for the fourth quarter. Moreover, the bounce back in job growth last month suggests a labor market that is cooling but not crumbling. That said, given progress on inflation has slowed recently, Chairman Powell highlighted a renewed concern around inflation, all suggesting more modest easing.

Notably, when asked how tariff policy might impact the committees’ forecast, he pointed to the Fed’s approach in 2018 in which the committee looked through tariffs. However, Powell mentioned a few members did incorporate potential fiscal and tariff policies under the incoming administration in these estimates.

Treasury yields popped, stocks sold off and the dollar spiked as cuts were priced out. For investors, the macro backdrop has not shifted materially, we still expect growth and inflation to normalize, labor to gradually cool and for modest policy easing next year. This should keep earnings growth positive providing support for equities and credit next year, and elevated yields keep income attractive in bond markets. However, in the face of significant policy uncertainty maintaining broad diversification across stocks, bonds and alternatives is the best protection.   

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