Stocks are higher this morning as we await the Fed decision. Bonds and MBS are up.
The Fed decision is due at 2:00 pm today. We will get a fresh set of projections and a new dot plot. Kevin Warsh will hold a press conference afterward. The market’s focus will be how close the Fed is to raising rates. The dot plot will be of critical importance.
At the March meeting, the consensus was rate cuts. A total of 7 members thought there should be no change, another 7 thought there should be one rate cut this year, and another 5 thought there should be two or more. The Fed Funds futures now forecast no rate cuts this year and are pricing in a 60% chance of at least one rate hike.
At the March meeting, the FOMC was predicting a core PCE inflation rate of 2.7% for 2026. At the time, core PCE inflation was 3.03% based on the February report. The Committee was thinking that the expiration of tariffs and a quick resolution to the Iranian situation would push core inflation back down to 2%. So far, that hasn’t been happening:
The new dot plot may be missing a dot: Kevin Warsh’s forecast. The new Fed Head is generally against the amount of talking the Fed does around interest rates. Fed transparency is a relatively recent phenomenon, which started in 2012 by Ben Bernanke when the Fed was fighting deflation in the aftermath of a burst residential real estate bubble. The point of the plot was to reassure markets that interest rates were going to stay low for the foreseeable future.
June 2012 dot plot:
Note the Fed forecasted ending ZIRP around 2014. The first rate hike didn’t end up happening until the December 2015 meeting. Also note that the Fed thought r-star (the neutral rate of interest) was above 4% back then.
Historically the Fed wanted to keep its intentions and deliberations secret in order to influence inflationary expectations. While past inflation is useful data, the Fed is interested in influencing future behavior and this can be a problem in an inflationary environment. If the Fed discloses what it thinks future inflation might be, consumers and businesses might front-load purchases which creates a self-fulfilling prophecy. If you want to lower future inflation, you would keep your forecasts to yourself. Transparency might have made sense in a deflationary spiral where the Fed wanted to create inflation (strange as that sounds). It generally isn’t helpful in an inflationary environment.
Mortgage applications fell 3.8% last week as purchases fell 3% and refis fell 5%. “Last week’s CPI data showed that inflation continued to move higher, putting upward pressure on rates early in the week, but growing optimism regarding the opening of the Strait of Hormuz brought rates down again by the end of the week,” said Mike Fratantoni, MBA’s SVP and Chief Economist. “The net impact reduced mortgage application activity, with both purchase and refinance application volume down for the week by 3% and 5%, respectively. Purchase application continues to run modestly ahead of last year, with last week’s volume up 3% on an annual basis, with stronger growth in conventional purchase volume while government purchase volume remained subdued.”
