Evening Brief – 11.20.23
Running of the Bulls
The equity bulls continue to sharpen their horns as the markets extended their three-week advance on Monday, driven by increased optimism that the Federal Reserve’s monetary policy tightening cycle has ended and interest rate cuts are coming.
The S&P 500 Index gained 2.2% last week, reaching its highest level since September 1, and gained another.60% on Monday. Market participants are monitoring to see if the market can go higher and break through the summer peak of 4,588, a gain that would indicate that the comeback from last year’s October low of 3,583, which had waned in previous months, is resuming.
If the July high is surpassed, the next level to watch is the market’s all-time high of 4,766 in January 2022.
“The dovish Fed narrative remains in place,” says Win Thin, global head of currency strategy at Brown Brothers Harriman & Co. “There is likely to be ongoing downward pressure on US yields and the dollar.”
The Federal funds futures contract is pricing in a high probability that the central bank will stick to its target range of 5.25% to 5.50% at the next three meetings, but sentiment remains ambiguous regarding the prospects for a rate cut in the near term.
Expectations for an interest rate cut begin to grow further out along the curve, commencing with the May FOMC policy meeting, which now boasts a 60% probability.
Lately, however, the policy-sensitive U.S. 2-year Treasury yield seems to be flirting with somewhat higher odds of a rate cut. The 2-year yield, a frequently monitored barometer for interest rate expectations, has retreated from its cyclical high in recent weeks, closing on Monday at 4.90%, somewhat lower than its October 17 peak of 5.19%. Notably, the yield remains below the Fed funds target range, indicating that pressure for interest rate cuts is growing.
To the degree that the market continues to buy 2-year Treasuries, which reduces their yield, market sentiment will rise in favor of a cut, possibly sooner than previously expected.
Given that it is a shortened holiday trading week in the US, paired with a sparse slate of economic releases, investors may struggle to discover clearer evidence that rate reductions are imminent in the near future.