Fed keeps interest rates steady as inflation remains stubborn

Fed keeps rates steady as inflation remains stubborn

May 1, 2024 4:11 PM

On May 1, 2024, Federal Reserve Chair Jerome Powell announced that interest rates would remain unchanged.

Welcome back to "Crash or Land," the column where Financial Planning tracks the course of the U.S. economy. When a key new data point emerges — whether it's a jobs report, inflation numbers or the latest move by the Fed — we ask wealth management's sharpest minds one question: Does it bring us closer to a recession or to a soft landing?

Once again, the Federal Reserve is following the mantra of many financial advisors: Stay the course.

On May 1, the central bank announced that it's making no change to interest rates for the time being, leaving the federal funds rate between 5.25% and 5.5% — its highest level in two decades.

At his press conference, Chair Jerome Powell noticeably did not reiterate the Fed's earlier plan to cut rates three times in 2024 — but he also downplayed the likelihood of moving in the other direction.

"I think it's unlikely that the next policy rate move will be a hike," Powell said.

The decision to hold tight came as no surprise to analysts, who widely expected it. That, in a way, is a measure of how much the economic picture has changed since the end of 2023, when Wall Street was still holding out hope for a rate cut as early as March.

It was not to be. In the first three months of 2024, inflation proved stubborn as a series of disappointing data points were released. In March, the year-on-year change in the consumer price index (CPI) rose to 3.5%, up from 3.2% in February. That same month, the personal consumption expenditures (PCE) index rose 2.7% year-on-year, up from 2.5% in February.

"Inflation has eased over the past year but remains elevated," the Fed said in a statement. "In recent months, there has been a lack of further progress toward the Committee's 2 percent inflation objective."

What does the Fed's latest decision mean for wealth management? Is "higher for longer" the new watchword for interest rates? If so, which investments will benefit from that environment, and which ones will take a hit? And for the economy as a whole, does this bring us closer to crashing or landing?

For answers, we turned to the sharpest analysts on Wall Street and around the country. Here's what they're saying:

Wait and see

Jeffrey Roach, chief economist at LPL Financial

"This report doesn't give us much other than a confirmation that the Fed is data-dependent, and the data has been disappointing. The Fed is still in a 'wait-and-see' mode. Investors have to do the same thing as policy makers, which is wait until we see confirmation that inflation is moving toward the Fed's target. For now, we don't have a clear picture."

A policy error?

Gene Goldman, chief investment officer at Cetera Financial Group

"The Fed's decision to keep rates unchanged, though not a surprise, does increase the risk that we are moving away from a soft landing. While it is clear that inflation has been choppy the past few months, it is still on a downward trajectory, especially when you factor in that shelter inflation and services inflation will likely slow. …

"So with inflation likely to slow, in our opinion, and the fact that the federal funds rate is more than 2% over inflation, acting like an economic drag, and it takes 12-15 months for a rate hike to be fully felt by the economy, the downstream impacts of the Fed keeping rates higher for longer increases the risks of a policy error. …

"For investors, the best strategy is to be diversified. Market volatility, like what we anticipate as the Fed and the markets try to read the inflation tea leaves, will likely remain elevated. But that is a normal event. … Volatility is a normal part of investing.

"As an advisor, you need to help minimize those downturns with diversification and exposure to investments that zig when the rest of the market zags, such as liquid alternatives. Because we do anticipate the economy avoids a near-term recession, having an overweight to both value stocks and small-caps is prudent. Both are more economically sensitive than growth and trade at a much more attractive valuation. Lastly, taking advantage of these high yields in high quality fixed-income is also prudent. Yields are closer to their peak than their bottom. Also, a higher for longer Fed suggests pressure on long-term economic growth, and therefore yields."

Good news for bonds

Bret Kenwell, U.S. investment analyst at eToro

"For now, it keeps us in place. Economic data has remained solid, but inflation has been stubborn, so more time will be needed with higher rates. That said, a rate hike has been a discussion that has gained traction over the last few weeks, but it's not something that the bond market or the Fed are considering at this time. It appears the Fed remains in a 'when, not if' outlook for when it comes to rate cuts — they just need the data to justify it.

"With the Fed's plan to slow its balance sheet runoff on June 1 — and while maintaining a 'when, not if' outlook on rate cuts — bonds should be a beneficiary. We'll see if that's the case in the coming weeks and months.

"Stocks have been more volatile as of late and can remain volatile in the short term. However, so long as the fundamentals remain unchanged — i.e., earnings growth expectations remain strong, the economy and labor remain firm, and inflation doesn't meaningfully accelerate — stocks should do well in the second half of 2024."

Buying time

Charlie Ripley, senior investment strategist for Allianz Investment Management

"The Fed clearly recognizes progress towards the inflation goal has slowed with recent monthly inflation data coming in higher than they would have wanted to see. In continuation with the wait-and-see policy that has been in place, Chairman Powell is buying some time by diverting attention of this meeting towards the Fed's balance sheet and focusing on reducing the runoff pace of their Treasury holdings. The monthly decline in Treasury securities held on the Fed's balance sheet will slow from a pace of $60 billion per month to $25 billion per month, which is more than market participants were expecting.

"Ultimately, today's policy decision was a well-rounded approach to give the Fed more time to gain confidence in the path of inflation, but we suspect they remain ready to cut knowing that the interest rate curve has remained inverted for the longest period on record."