Fed signals to halt rate cuts as investors confront data darkness and leadership change
After three consecutive interest rate cuts, investors now face an uncertain outlook for US monetary policy for next year, clouded by persistent inflation, data gaps and an imminent change in leadership at the Federal Reserve.
The US Federal Reserve cut interest rates by a quarter of a percentage point on Wednesday in an unusual vote, but signaled it might pause further cuts in borrowing costs as officials look for clearer signals on the direction of the job market and inflation that “remains high.”
The Fed’s projection of a slower easing path contrasts with market expectations of two cuts of 0.25% in 2026, which would bring the Fed’s interest rate to around 3.0%. Policymakers expect only one cut next year and another in 2027. Wednesday’s cut brought the policy interest rate to a range of 3.50%-3.75%.
The central bank’s updated projections show six policymakers favoring no rate cuts this year, and seven policymakers anticipate no further rate cuts in 2026.
Further monetary policy developments will depend on economic data still lagging behind the impact of the 43-day federal government shutdown in October and November. This comes as the US enters a midterm election year that will likely focus on economic performance, and President Donald Trump urges sharper interest rate cuts.
“I think the guessing game of what the Fed will do next is going to get tougher next year,” said Art Hogan, chief market strategist at B Riley Wealth.
THE FED IS FACING A SMOOTH BALANCING ACT
Investors face uncertainty regarding monetary policy next year as inflation trends and the strength of the labor market remain unclear.
The Fed’s dual mandate—employment and price stability—sparked internal debate at the Fed.
“To me, this just shows you the fine line that the Fed walks, the fine line that the economy walks, or I call it more of a delicate balance,” said Brent Schutte, Chief Investment Officer at Northwestern Mutual Wealth Management Company.
“It’s really unknown where we’re going in the next six to nine months, given all the changes that are occurring in this historically strange period, where there are tensions on both sides of their mandate.”
Economic data flows will gradually return to normal following the recent government shutdown, but uncertainty remains.
“The Fed’s guidance may tell us less than usual about the outlook for interest rates, for two main reasons,” Bill Adams, chief economist at Comerica Bank, said in a note.
“First, they know less than usual about the current state of the economy because the government shutdown delayed the release of economic statistics. Second, the Fed’s guidance does not take into account how their approach will change after Chair Powell’s term ends in May,” he said.
White House economic adviser Kevin Hassett, seen as the front-runner to become the next Fed chairman, told the WSJ CEO Council on Tuesday that there is “a lot of room” to lower interest rates further although rising inflation could change that view.
Trump said on Wednesday that the Federal Reserve’s interest rate cut was small and could have been larger.
“To me, it feels like, at least heading into 2026, there are still a lot of unanswered questions out there regarding the direction of the economy and the future direction of interest rates,” Schutte said.
Ignore the noise
For some investors, the wisest move is to stay the course and avoid knee-jerk reactions.
“You’re going to have a lot of financial disruption between now and the end of next year…” said Alex Morris, chief investment officer at F/m Investments.
Although investors may still have to grapple with the possibility of better-than-expected growth or higher inflation next year, those scenarios are seen as unlikely to trigger monetary policy tightening, he said.
“(It) doesn’t worry you so much that you have to duck and cover,” said Morris, who has encouraged bond investors to extend maturities.
Powell on Wednesday said that the Fed’s next move likely won’t be a rate hike, noting that’s not the base case reflected in new projections from central bank policymakers.
Meanwhile, stock market investors don’t seem too worried about the prospect of a pause in interest rate cuts. While lower interest rates have helped lift stocks to new highs, further easing, especially if driven by an economic downturn, may be undesirable.
Source: Reuters
