Going into the September meeting of the Federal Open Market Committee (FOMC), investors were divided on what the Fed was going to do. The futures market had a roughly 50/50 chance for either no rate cut or a 25-basis-point rate cut.
Well, we just got our answer. The FOMC decided to cut rates by another 25 basis points to a target range of 1.75% to 2%. This comes on the heels of a cut of the same magnitude in July. The stock market declined immediately after the interest rate decision was announced before rebounding into the close. Generally, when the Fed takes the more-dovish of two potential courses of action, the market immediately rises in response.
There's a good reason for the market's reaction today, so here's what you need to know about the September FOMC meeting and
What changed in the statement?
There are fewer documents anywhere in the world that are as closely dissected word-for-word as the FOMC's statement that reveals its interest rate decisions. And given the trade-war and recession fears that have been present in the market recently, it may surprise you to learn that there was actually a positive changes in the statement language.
For example, the July statement said that growth in household spending had "picked up," while it now says that it has been "rising at a strong pace," although it did say that "exports have weakened."
Also in the statement, we learned that three of the 10 voting members of the FOMC disagreed with the rate cut. Two wanted no cut at all, while one wanted a more dramatic 50-basis-point rate cut.
The dot plot
We knew the Fed's dot plot was going to change significantly. If you aren't familiar, the Federal Reserve's dot plot is the chart that shows where Fed officials see the benchmark federal funds rate heading.
But the dot plot didn't change as much as many investors had hoped. The new dot plot shows a median projection of no further rate cuts in 2019 or 2020, followed by one rate hike in 2021 and another in 2022. This could be interpreted as a negative by investors, many of whom are expecting a series of rate cuts to follow this one. In fact, the futures market was pricing in a median of two more rate cuts this year a week before this meeting. Immediately after the dot plot was announced, this shifted dramatically, and now no further cuts are being priced in.
Just as significant is how divided the FOMC members are. Of the 17 people who participate in the projections, seven are projecting one further rate cut, five project that the federal funds rate will remain where it is, and the other five are actually projecting one rate hike before the end of the year.
As I mentioned, this was one of the four Fed meetings each year where we not only get an interest rate decision, but where the Federal Reserve releases its latest economic projections. There are three main categories: GDP, unemployment, and inflation.
- GDP Growth The Fed now sees GDP growth at 2.2% in 2019, which is actually an increase over the 2.1% rate that it projected at the June meeting. The central bank also sees GDP growth of 2% and 1.9% in 2020 and 2021, respectively.
- Unemployment The median projection for the year-end 2019 unemployment rate is 3.7%, which the Fed also projects for 2020 before a slight uptick in 2021. The 2019 projection is a slight increase from 3.6% last time projections were released.
- Inflation The Fed's inflation forecast remains exactly the same as it was in June. For 2019, inflation is seen at 1.5% (core inflation of 1.8%), rising to 1.9% and 2% over the next two years.
In a nutshell, not too much changed in the Fed's projections this time.
The key takeaway
After reading through all of this, it's clear that the dot plot is the part that seems to have taken investors by surprise. If anything, the 25-basis-point rate cut was a pleasant surprise, and not much changed in the statement or in the economic projections. However, the divided nature of the FOMC and the general lack of projected further rate cuts seems to be causing a mixed reaction among investors.