Since late October, market sentiment in the U.S. has taken a hit: the SPY ETF, which tracks the S&P 500, has dropped 2.8%, while BTCUSD has fallen around 20%. And this has nothing to do with retrograde Mercury. Instead, it’s Powell’s hawkish tone at the last FOMC meeting, or, to be more precise, his statement that it was “not a foregone conclusion” that the Fed would cut interest rates in December.
That single line was enough to shatter the market’s expectations, with the odds dropping below 40%. The 43-day government shutdown only added to the uncertainty, as data releases were delayed and some October metrics might never be released. Meanwhile, yields on Treasuries, especially the 30-year, jumped as investors braced for tighter financial conditions from the Federal Reserve.
Then came a wave of articles arguing that the AI bubble might be starting to deflate, as investors began to question the sustainability of tech companies' multi-billion-dollar spending on AI. On top of that came a sharp plunge in Reverse Repo Facility (ON RRP) balances, signaling that money-market funds were pulling cash to plug their own liquidity holes. With all that, talks of a market crash reemerged.
And yet the plot twisted again for the market, with John Williams of the New York Fed and Mary Daly of the San Francisco Fed highlighting growing vulnerabilities in the labor market, and Williams even saying outright that a near-term rate cut remains possible. Sentiment got another boost when news broke that U.S. officials were holding preliminary talks about allowing Nvidia to sell its H200 chips to China.
What are the chances the Fed will actually cut rates on December 10?
According to the CME Fed Watch Tool, traders now see the probability above 80%. But that doesn’t mean anything is guaranteed. For example, Barr, Harker, Goolsbee, and Logan have all recently spoken out against lowering rates as inflation remains high, indicating that there is no unified stance among Fed members. The decision for the December meeting remains unpredictable, despite an increased likelihood of a cut.
As for the macro picture, the September labor market report doesn’t reveal much about the current situation. Job growth of 119,000 is above the previous six-month average, and the rise in unemployment to 4.4% was mainly due to higher labor-force participation. The reports for October and November won’t be released, while the inflation report for October will be combined with November and published on December 18.