Atlanta Federal Reserve President Raphael Bostic told CNBC in an interview that he sees only one rate cut this year, occurring in the fourth quarter. State Street Global Markets Senior Multi-Asset Strategist Dan Gerard joins Yahoo Finance Live to discuss his outlook for Fed rate cuts.
Gerard notes that current market valuations are aligned with expectations, stating that the possibility of a Fed rate cut in June is currently "a coin toss." Although Fed Chair Powell, he says, is leaning towards cutting rates Gerard thinks "the data just isn't there yet."
Gerard emphasizes the significance of the Fed's data on commercial banking. He acknowledges there is a "good risk-taking environment" within financial markets; however, on the lending front, he notes that "stress is building."
Despite these concerns, Gerard says that US markets are still "the king," advising investors to focus on mega-cap stocks and exercise caution with small-cap markets.
For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.
Editor's note: This article was written by Angel Smith
Video Transcript
- We want to bring in Dan Gerard He's State Street Globals Market's senior multi-asset strategist here to discuss a bit more. Dan, it's great to see you here. We're both very excited to ask you questions. Let me kick it off real quick.
In terms of what we could hear from Powell, what you're expecting the timing of the first rate cuts. Do you think what's being priced into the market right now makes sense at this point?
DAN GERARD: Look, thanks for having me on first of all. And yes, I think it makes sense because we've got about a-- I think now down to about a coin toss in June. And Chair Powell has really showed his bias over the past few pressers. I think he's trying to build consensus.
He wants to get into a cutting phase. But the data just isn't there yet. And now the market is really starting to question that June cut. Not pricing it out, but questioning. And I think that makes sense given where the data is.
We get more inflation data next week. And the potential is there that, due to energy prices and the pass through of energy prices, that we continue to see some pretty hot numbers or at least more than the FOMC will be comfortable with. And yeah, I think it makes sense where we are. About maybe 50% chance that we'll see June at this point.
- Well, I'm glad you bring up oil prices, Dan, because I am curious which asset class you look at to find the most clarity about what's going on beneath the surface because there's so much conflicting data out there. You've got oil hitting record highs, the 10 year hitting record highs. Which asset class do you look at for the clearest picture of what could be next for the Fed?
DAN GERARD: Well, look, I think what's most important is the Fed's data on commercial banking. I think that that's really what they're trying to keep their eyes on because we've got a bit of a dichotomy. We still have a pretty good bullish investor sentiment, a good risk taking environment within the financial market space. And that's showing up in tight credit spreads, it's showing up in the fact that valuations remain quite high still.
But if we look at the lending side of bank assets or just commercial bank assets in general, we can see that there is some stress building. And that's important. That lending demand or just overall lending growth has fallen down to levels where normally that's a pretty good precursor for recession on the horizon. Total lending in a three month annualized basis has gone negative, commercial and industrial lending sub 5% which is a pretty good telltale sign. So I think that's really what we need to watch out for, especially as there is the potential here for the first time in nearly two decades that we'll have high positive, nominal rates high, high positive real rates and a Fed balance sheet that is actually stable or declining when some of these facilities roll off in the next few months.
- So Dan, it sounds like the test is just ahead here for the market. So what does that tell us then in terms of investors? What should they be doing? How should they be positioning their portfolios today just to brace for some of that potential volatility and uncertainty?
DAN GERARD: Look, I still think the US markets are king here. This is where we see the best growth exposure, the best profitability, that exposure to tech into health care, which we want. I don't think this is time to go into the small cap value side of markets yet. So the US is really-- US equities in the cap weighted world makes sense.
Now there is this expectation that the ECB will potentially be the first to cut now. And that's getting European investors excited as well. We're starting to see from our client base inflows back into France and to Germany, which is, of course, more cyclical value exposure. I think that has potential short term run to it. I wouldn't call that a durable rally because I'm still worried that we haven't seen the end of this cycle yet. And with the potential for continued hot data and cuts being priced out or kicked down the line a bit, I would stick with that US growth story a bit more, profitability and cash flow.
- Dan, I hate to say this as we're just about an hour and change out from hearing Jay Powell speak. But is there any chance that we are giving a little bit too much credence to the Fed for the rally that we've seen so far this year because we've also had really solid earnings growth? Do you think that the market could still have legs to rally because of that earnings growth despite what may come from the Federal Reserve?
DAN GERARD: Look, I don't think we're in an earnings driven phase yet. We're starting to see pretty solid earnings expectations. I'll call them lofty earnings expectations if we're having declining nominal growth. So that's what we have to wrestle with a little bit.
I think this is still very much a liquidity driven rally that has been driven by the unwind of the Fed's reverse repo facility pulling money back into the financial markets. That makes the most sense to me. And I think that that's what we really need to watch out for as we start to reach the end of that unwind in the next few months. So not quite the earnings rally yet.