Hopes for a December rate cut are fading fast despite labor fears—Jerome Powell will have his work cut out attempting to unite the Fed

Despite recent ADP data indicating a weakening labor market, Federal Open Market Committee (FOMC) members have adopted a cautious stance, significantly cooling expectations for a rate cut at the Fed's final meeting of the year, with probabilities for a 25bps cut dropping from 92% a month ago to 63%. This shift is driven by persistent inflation at 3% and a desire among many officials, including Musalem and Goolsbee, to avoid premature easing while balancing the Fed's dual mandate. While markets showed positive momentum on hopes for an end to the government shutdown, the Fed's outlook remains focused on navigating sticky inflation amidst an uncertain economic landscape.

Analysis

The Federal Open Market Committee (FOMC) has adopted a cautious stance, significantly cooling market expectations for a rate cut despite recent private sector labor market data indicating weakness. ADP reported U.S. businesses shed an average of 11,250 jobs weekly for four weeks ending October 25, yet CME's FedWatch tracker shows the probability of a 25bps cut next month has fallen from 92% a month ago to just over 63%.

This shift is primarily driven by persistent inflation, which remains sticky at 3%, above the Fed's 2% target, creating tension with its dual mandate. Several FOMC members, including St. Louis Fed President Alberto Musalem and Chicago Fed President Austan Goolsbee, have expressed hawkish or cautious views, emphasizing the need to avoid premature easing amidst ongoing economic uncertainty.

Despite these underlying economic concerns and the government shutdown, markets have shown resilience, with the Dow Jones closing over 1% higher and the VIX volatility index declining 2.5%. This positive momentum is largely attributed to hopes for an imminent end to the U.S. government shutdown, suggesting investors are awaiting official government data before reassessing their broader economic outlook.

Key Decisions for Investors

• Monitor official labor market data from the BLS for confirmation of private sector trends, as this will be crucial for the Fed's policy decisions.
• Pay close attention to FOMC member statements and inflation reports, given the current 3% inflation rate and the committee's cautious stance on rate cuts.
• Assess portfolio positioning for potential volatility stemming from the government shutdown's resolution or official economic data releases, while acknowledging current market stability indicated by the VIX.