Could the Fed skip a rate cut next month?

The probability of a Federal Reserve rate cut at its upcoming October meeting is diminishing, driven by stronger-than-expected economic data, particularly stable labor market conditions, and increased caution from several voting Fed officials regarding persistent inflation above the 2% target. While derivative markets have adjusted their expectations downward, and some regional Fed presidents express reluctance for further easing, many economists still anticipate cuts in October and December, with some suggesting the Board of Governors remains inclined to ease policy, making the near-term trajectory of monetary policy uncertain.

Analysis

The probability of a Federal Reserve interest rate cut at the upcoming October meeting is facing increased uncertainty, driven by a divergence between market expectations and cautious commentary from key officials. Stronger-than-expected economic data, particularly stable weekly jobless claims, has led some economists, like those at Oxford Economics, to forecast a delay in easing until December. This view is reinforced by several voting members of the rate-setting committee; Kansas City Fed President Jeff Schmid stated the current policy is appropriate, Chicago's Austan Goolsbee expressed unease with "front-loading too many rate cuts" while inflation remains above the 2% target, and St. Louis's Alberto Musalem noted "limited room for easing." Consequently, derivative markets have adjusted the odds of an October cut down to 83% from 93%. Despite this, a faction of economists, including those at Jefferies and SGH Macro Advisors, maintain that cuts in both October and December are likely, citing underlying labor market risks and the dovish composition of the Fed's Board of Governors. The decision remains highly contingent, with J.P. Morgan noting a cut is likely barring a major negative shift in the labor market, and a potential government shutdown looms as a wildcard that could delay the decision by disrupting data flow.

Key Decisions for Investors

• Given the heightened uncertainty and divergence between Fed officials' statements and market pricing, investors should consider hedging positions that are highly sensitive to a hawkish surprise, as the risk of a 'skip' in October has materially increased.
• Monitor the next jobs report with extreme prejudice, as it is the final significant data point before the meeting and has been identified by analysts as the key variable that could sway the Fed's decision.
• Investors should be prepared for increased volatility in fixed income and equity markets leading up to the October 28-29 meeting and re-evaluate portfolio duration, as the probability of a cut has weakened from 93% to 83%.