Rates hold steady as the PCE meets expectations

Rates have held steady

Since the start of 2024, markets have shifted expectations around rate cuts as inflation reports have shown that the Fed has lost some momentum in bringing down inflation to 2.00%. Looking at the chart below, there were two notable jumps for the one-year Treasury yield over the last month. The first jump marks the days following the Federal Open Marketing Committee (FOMC) meeting on January 31 where Chairman Powell stated that they are in no rush to cut rates. The second was preceded by a higher-than-expected CPI report, further entrenching FOMC member’s beliefs that a rate cut in March is essentially off the table. Since the CPI report, rates have been relatively stable despite large retail sales and a durable goods orders miss.

PCE report showed an expected uptick

On Thursday, the core PCE release helped keep rates calm as the report was aligned with expectations at 2.80% year-over-year growth in January. When looking at the graph of year-over-year core inflation, it paints the picture of a steady controlled decline. If you zoom in and look at six-month inflation, it shows the bumpiness that many FOMC members have been referring to with January’s numbers having a notable uptick. When December’s PCE report was released last month, there was attention around six-month inflation being under the Fed’s target of two percent. At the time, this put wind at the backs of those calling for rate cuts. Even though CPI was over three percent by all measures, there was hope.

Starting in 2000, the Fed has stated that they believe PCE better represents the prices paid by all economic participants, not just consumers. Since January’s meeting, FOMC members have stated that it will take much more to prove to them that inflation is under control, and Thursday’s PCE report tells us why. With a market that has seemingly discarded any possibility of a rate hike, an out-of-the-money option product may now be a more attractive way for organizations to limit their exposure to an unlikely, but possible rate hike compared to a swap if this inflation uptick does not prove to be a one-off event. While the recent uptick seen below may be caused by the seasonality of the data and the repricing that takes place with the new year, it puts the Fed in an interesting position going into their March meeting as a weakening economic activity trend may be emerging.

Durable goods orders highlight a week of weak data

Just last week, durable goods orders saw the largest decline in almost four years as well as a decrease in consumer confidence, a new homes sales miss, and a downward revision to GDP by 0.10%. New orders for duable goods are now down three of the last four months. Leading the negative growth was the nondefense aircraft and parts category. This saw a -37.10% decline in January, largely due to Boeing only receiving one new aircraft order (down from 371 in December). Since the Fed has started hiking rates, Chairman Powell has been repeatedly quoted that an economic downturn is an acceptable outcome if it is the only way to bring down inflation. While these recent economic figures may seem to encourage a rate cut happening sooner rather than later, they are unlikely to have any significant influence over the FOMC’s decision.

In the week ahead

Next week, we will see the PMI report released on Monday. Powell will testify before the Joint Economic Committee on Wednesday and Thursday. January's consumer credit will be released on Thursday, and February's jobs data will be published on Friday.