The Fed resumes easing

So, it is against a backdrop of strong consumer demand, rising inflation and a booming stock market that Jay Powell and the rest of the Federal Open Market Committee (FOMC) voted to cut US interest rates. The latest quarter point cut – the first in 2025 - takes the all-important Federal Funds rate down to the 4.00-4.25% range.

This resumption of policy easing was well signposted. Indeed, capital markets seem to be congratulating the Fed on a job well done: equity markets are firmly in the green today (do they do anything different?) and treasury yields are little changed.

To its credit, the FOMC refrained from resorting to a more radical pace of easing, though it didn’t prevent Trump’s latest temporary appointee, the economically unconventional Stephen Miran, dissenting and voting for an outsized cut – and favouring further such moves ahead. So far at least, the US Administration’s attempt to influence or intimidate the Fed have fallen short. But we should brace ourselves for more noise and possible disruption entering 2026.

Browbeating to one side, perhaps the most important takeaway from what was an otherwise benign meeting, were the Fed’s latest DOTS and economic projections. The median FOMC member now expects a further 50bps of easing this year (up from 25bps previously) and a further 50bps in 2026 – though we should be clear that the underlying views are diffuse. Importantly, money markets are signalling an even more dovish outlook, with ~115bps of cuts priced into the curve by the end of 2026.

Counterintuitively, those FOMC members also expect modestly faster growth and higher inflation this year and next (relative to their last update in June). Naturally, this prompts the question: why is the Fed easing?

Cracks may have formed in the impregnable US labour market, but the unemployment rate is still low, and inflation is still well above target. Powell intimated that this latest move was a pre-emptive ‘risk management cut’, but it’s not clear that the evolving economic picture warrants such dovish action.

All of this may seem needlessly pedantic, but relief on interest rates is perhaps one of the few bright spots in what has been an increasingly chequered investment backdrop. Geopolitical strife feels more daunting than usual: increasingly autocratic US policy has become routine; sabre-rattling in China has resumed; political change is afoot in Japan; and fiscal woes are evident in Europe. The sluggish global business cycle – which often matters more than geopolitical threats – remains friendly (and corporate profits are still growing), but inflation has not disappeared. For now, bond markets remain relatively sanguine about such risks: long-dated inflation expectations remain well and truly anchored.

But against this implicitly ‘risk-off’ environment, stocks, bonds, and gold are all moving higher. The unassailable equity market is on track for a sixth consecutive positive month, returning 17% so far in 2025 (in USD terms) – modestly ahead of its 2024 outturn. Markets seem only primed for good news. Meanwhile, disquieting TMT echoes are bubbling up: the crypto treasury craze continues, and unbridled AI-enthusiasm has yet to fade (Oracle recently surged by a third in a single day, briefly leapfrogging JP Morgan as the 10th most valuable US company).

Just under a year ago, we felt some complacency was evident and that stocks had used up a considerable amount of valuation headroom. Arguably those tactical headwinds are even more visible today. “Don’t fight the fed” has been a long-standing investment mantra, but we don’t yet believe that the FOMC needs to be quite this friendly: financial conditions have been loosening this year, and growth continues. We’re not yet of the view that bad news is poised to become bad news per se, but pricing-out those lower rates could indeed hurt stocks for a while, as well as bonds.

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