May Fed meeting: Awaiting what the Fed will see

In this article, we review:

• Changes to the Federal Reserve policy statement following the May meeting
• Highlights of Chair Jay Powell's post-meeting press conference, including a "wait-and-see" profile regarding future action by the committee
• Why we believe prospects of a June rate cut could now be off the table
• Our year-end forecasts pertaining to short- and longer-term interest rates

As expected, at the conclusion of its May 7 meeting, the Federal Reserve left the federal funds target rate unchanged at 4.25-4.50%. As investors looked closely for clues or signals as to when future rate reductions might begin, Chair Powell was overtly noncommittal during his press conference, leaving most investors with an incrementally more hawkish interpretation. As a result, market expectations for a rate cut at the June meeting diminished somewhat, and overall expectations of Fed easing by year-end pulled back modestly.

In regard to this development, we view the following points as important to investors:

Stagflation risk highlighted in Fed statement. Aside from removing language pertaining to the March meeting's adjustment to quantitative tightening and an added reference to net exports affecting recent data, we believe there was one pertinent change to the Fed statement. This was the wording, "the risks of higher unemployment and higher inflation have risen." In our view, this was not a particularly investor-friendly addition to the statement, in that the Fed is now raising its perceived risk of potential stagflation yet not signaling a course of policy action to address it.

"Wait and see" takes home phrase of the day. Throughout the post-meeting press conference, Chair Powell reiterated definitive certainty regarding the Fed's sense of uncertainty. This was exemplified by the fact that he used the precise term, "wait and see," a total of 10 times in response to questions about upcoming timing of potential rate cuts, hence communicating the Fed's willingness to accept some period of time to let more economic data guide future policy. This was also quickly interpreted by the markets to mean there would not be enough data in upcoming weeks to justify, in the eyes of the Fed, a rate cut at the upcoming June meeting.

Hard economic data will determine policy path. Despite this expressed uncertainty, Chair Powell stuck to confidence in the economy as referenced in recent hard data that has yet to confirm concerns of negative sentiment. Specifically, when asked about a rising risk of recession, he responded, "We've had unemployment in the low fours for more than a year, we've had inflation coming down to the low twos, and we've had an economy growing at two-and-a-half percent. So that is the economy we see right now." We view this statement as a bit of a stake in the ground that the Fed has no current intention of preemptive rate cuts based on soft data coming from consumer or corporate expectations and, at this point, plans to wait for hard data of real economic activity to display noticeable slowing.

June rate cut starting to look off the table. While there will be several key economic reports to be released in the month ahead (including May employment, revised 1Q gross domestic product estimates, retail sales, consumer price index and personal consumption expenditures inflation among others), it is unlikely, in our view, there will be sufficient data to indicate real slowing and/or a renewed shift to declining inflation for the Fed to warrant a rate cut at the upcoming June meeting. For there to be action by the Fed at this next meeting, we believe there would have to potentially be a negative jobs May employment report or some other major contractionary reading of equal magnitude, which at this point we do not see on the horizon.

We are maintaining our forecast of a year-end federal funds rate target range of 3.50-3.75% consisting of three quarter-point rate cuts, though we now see them as more back-weighted from a calendar standpoint, potentially occurring in the September through December time frame. We continue to see the longer end of the yield curve declining as well, with a realistic year-end target on the 10-year U.S. Treasury yield being approximately 4.00%. That said, we caution that continued volatility will likely persist in both the fixed income and equity markets as investors await more clarity on Fed policy, future tariff-based trade negotiations, and the results of upcoming hard data economic reports. Within this environment we continue to favor short- to intermediate-term, investment-grade bonds providing meaningful yields and total return opportunities between now and year-end.

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