Inflation Takes a Positive Turn
Inflation has slowed to a three-year low, according to this morning’s Consumer Price Index, showing a 2.5% increase compared to the previous year. This marks a significant improvement from the 40-year high inflation rates of recent years, which had previously forced the Federal Reserve to raise interest rates to levels not seen in over a decade.
The report strengthens expectations of a shift in monetary policy, set to be addressed at next week’s FOMC meeting. The Federal Reserve is expected to implement its first interest rate cut since the start of the rate hike cycle—a move deemed "necessary" following recent labor market data. Tight monetary policies have led to widespread layoffs and hiring freezes, pushing the U.S. unemployment rate up to 4.2%.
The key question now is whether the Fed will opt for a 25 or 50 basis point (BPS) rate cut. While the majority of analysts are predicting a 25 BPS cut, some still anticipate a more aggressive 50 BPS reduction. However, a larger cut could signal that the economy is in worse shape than anticipated, potentially undermining market confidence and triggering a resurgence in inflation. The Fed faces a delicate balancing act, as making too bold a move—or none at all—could harm its credibility.
What does this mean for markets going forward?
Stocks like low interest rates and typically perform well in low interest rate environments. Low interest rates make it cheaper to borrow capital and grow businesses, which then boosts the U.S. economy and overall profitability. Technology stocks and start-ups are especially sensitive to interest rates, largely because they rely on borrowing to expand their businesses. One sector and index in specific to watch will be the small-cap sector of the market, the index being the Russell 2000 (IWM). This is one of the only major indexes that hasn’t reached a new all time high this year, and falling interest rates may help change that.