Markets Overly Confident Regarding Fed Rate Cuts, Risk Assets Could Decline: JPMorgan

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The U.S. Federal Reserve’s potential policy easing through interest rate cuts this year may not unfold as quickly and decisively as financial markets currently anticipate, according to JPMorgan Asset Management’s note published earlier this month.

The asset manager remarked that essential inflation indicators closely monitored by the Fed have not yet displayed major signs of disinflation.

JPMorgan’s Perspective on Inflation and Growth

The widespread anticipation of lower interest rates gained traction as inflation diminished in 2023, and the Federal Reserve hinted at a shift toward rate cuts during its December meeting.

As per the Fed funds futures market, traders are expecting a substantial 140 basis points of rate cuts this year. This figure is almost twice the amount indicated by the Fed’s interest-rate projections chart released in December. Central bank policymakers, as indicated in their quarterly dot plot, are forecasting a total of 75 basis points in cuts by the end of the year.

JPMorgan’s macro strategy team, led by Shrenick Shah, also suggested that the Fed’s dedication to addressing a potential resurgence in inflation is not fully recognized, which could create the possibility of a correction in risk assets.

“In our view, the market may be too optimistic as we see limited evidence of disinflation in certain areas that are a focus for the Fed, specifically core services inflation and wage data,” the strategists wrote in the note.” “Furthermore, continued resilience in U.S. growth may inhibit the disinflation process or even create upward pressure.”

Fed’s Initial Rate Review Incoming

The Federal Reserve is scheduled to release its initial rate review of the year later today. It is anticipated that the central bank will maintain the benchmark interest rate in the range of 5.25% to 5.5%, pushing back against increased dovish expectations in light of renewed inflation risks.

“While we do believe the Fed will stand ready to defend any emerging weakness in 2024, we also believe it remains committed to combatting inflation and would not hesitate to act if it were to rise again,” JPMorgan wrote. “We see this potential scenario as underpriced in markets and, if acknowledged, it may spark a correction down in risk assets and support bond yields.”

Bitcoin has exhibited a tendency to move somewhat in sync with stock markets, experiencing declines in response to hawkish developments from the Federal Reserve. The 57% surge in Bitcoin during the fourth quarter of last year can be attributed, at least in part, to the expectation of rate cuts and the devaluation of the US dollar index.

“Overall, we do not see the headwinds to equity of recent years as financial conditions loosen but do think the road might be bumpier than expected if we get disorderly rather than immaculate disinflation from here,” the asset manager concluded.

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