During each Federal Reserve rate decision meetings of 2024, I have been immediately transported back to my childhood. In these flashbacks, I am sitting in the backset of a station wagon, wedged between my sister, our cocker spaniel Clover, and some luggage, asking (repeatedly) “are we there yet?” And regardless of if we were within 10 minutes or 5 hours of our destination (in the pre GPS world there was no way to fact check!), my dad would say “no – but we’re almost there.“

This is the same message I have heard Federal Reserve Chairman Jerome Powell deliver at each Federal Reserve rate decision meeting this year – he has calmly and carefully reassured markets that while progress has been made against inflation and job growth has remained durable (the infamous dual mandate), rate cuts were not yet appropriate. In road trip terms, no there yet – but almost

And finally, after July 31st’s meeting, it seems like this high-rate family road trip may be coming to an end. Sweet relief!

Here are the important comments from the Fed’s meeting and related press conference that lead me (and markets) to this conclusion – keeping up with the Road Trip analogy

Inflation moves to the backset – In many meetings this year, the Fed focused its comments on inflationary forces – and the other part of its mandate (job market) was taking care of itself. Inflation was in the driver’s seat! This month, Powell tempered his inflation comments (noting it was now only “somewhat elevated”) and brought jobs to the front seat. Powell said “I don’t now think of the labor market in its current state as a likely source of significant inflationary pressures” and noted he would be concerned by any further weakness in the labor market. Friday’s upcoming jobs report may lend further support of this shift

Powell provides directions – Powell himself said that “a reduction in our policy rate could be on the table as soon as the next meeting in September.” He went on to say that it “looks like an economy that’s normalized.” A normalized economy would lend itself to a neutral interest rate policy (which is 3% – not 5.3%)

Remaining Aware of Detours – Powell was quick to note that the Fed remains data dependent and they may have to adjust course between now and September – noting no future decisions have been made regarding the path of rates from here

These may seem like subtle shifts and quite frankly – they are. Much like a parent placating kids during a road trip to reach their destination in relative peace, Powell is doing the same with markets. He wants his moves to be well choregraphed and understood by everyone who is along for the ride!

What does this mean for your portfolios? Nothing about this period of historically high-rates post COVID has been routine and as a result, making predictions of what comes next is a bit challenging. However, the following are a few high-level thoughts as we move forward from here:

*Bifurcations revert – we wrote about this back in June, noting the stark divergences in the market year to date. As rates come down (or as the market believes they will come down), some of these divergences will reverse. One we have already seen is large cap vs small cap dynamic. Large cap has outperformed small cap companies by a considerable margin in 2024. However, in July, that has changed. Why? Smaller cap companies are more rate sensitive – as they rely on outside funding/debt to run their businesses. Lower rates reduces that pressure and increases their earnings – and also reduces the belief the companies may not be able to continue operations. No trend line continues forever, so some reversion to the mean across markets and sectors is expected

*Rotation talk dominates – The news media loves a quick soundbite and the latest buzzword is rotation. By this they mean the selling of one part of the market for investment in another (like selling large cap tech for small cap investment). As always, we feel this is an oversimplification of what is happening beneath the surface. As has always been the case, it is wise to consider your available investments in context of the current economic backdrop and the likely future backdrop. Could certain sectors/businesses that are rate sensitive (like housing, car makers, small cap businesses) do better with lower rates? yes. Could large-cap tech businesses continue to do well as rates fall? Also yes. It’s never as simple as either/or. Sometimes it is both

*Timing is Everything – A recent post from a favored money manager, Bill Nygren of Oakmark, noted the thinness of the line between being wrong and being early. You have to accept this nuance to be a successful investor. You could be in the right place (ie: sector, company, etc) but not have the trade work out immediately. If you have done the work and have confidence in your thesis (and fact pattern is unchanged), stay the course

*Fixed Income Ready to Shine– Blackrock’s head of fixed income Rick Reider – after years of suggesting investment in equities over fixed income – has noted that 2024 is the Golden Age of fixed income investing. Bond investors are rewarded with historically high coupons/yields and the likelihood of lower future rates which will boost principal values. It’s been easy (and perhaps even wise) to ignore this asset class or stay very short in duration for much of the past 5-10 years. Now is the time to revisit it

*Take action on cash – The ride up in rates was very rewarding for the holders of cash. A simple trade into a money market fund allowed a return of over 5% for the past few years. It’s important to understand that as rates come down, these cash returns will come down just as fast. A certain level of cash always needs to be maintained regardless of the prevailing rates but for the rest of your cash reserves, now is the time to adjust your approach and find ways to lock in rates

Here’s to hoping we really are “almost there” when it comes to rate cuts – as market participants (much like anxious kids) are ready to start the next leg of the journey.

Onward we go,