The holidays are here. But many investors may be feeling like they made it onto the naughty list as they contend with challenges from turmoil in Washington as President-elect Donald Trump and Elon Musk flex their newfound political power to a souring outlook on the Fed’s interest rate policy, with fewer cuts expected to come next year.
Markets gained ground on the final trading day last week. But it wasn’t enough to overcome the double whammy of the threat of a government shutdown and hawkish signals from the Federal Reserve, which appears newly concerned about persistent inflation in the months ahead.
In the past week, the Dow Jones Industrial Average (^DJI) broke a 10-day losing streak but recorded a loss of 2.3% for the week. The Nasdaq Composite (^IXIC) shed 1.8%, while the S&P 500 (^GSPC) fell 2%.
After a dramatic week, investors are set to receive a relative trickle of economic news. Markets close early on Tuesday and won’t reopen until Thursday. But the holiday-shortened week will still give Wall Street a chance to parse through the Fed’s expectations for next year’s interest rate decisions. Central bankers now predict a shallower rate-cutting path in 2025. A renewed “higher for longer” policy approach will hang over the final trading days of the year.
Entering the Christmas holiday, markets are well down from the exuberant highs of early December. Much of that shift is tied to perceptions that the Federal Reserve, while initiating its third consecutive interest rate cut last week, is poised to take a more cautious approach next year. Instead of expecting four cuts in 2025, central bankers now foresee just two.
Markets are still wrestling with the implications of the latest “higher for longer” signal. Adding another wrinkle was Friday’s reading of the Federal Reserve’s preferred inflation gauge, which showed that, excluding volatile categories like food and energy, price increases fell month over month in November but still remained sticky.
Federal Reserve Board Chairman Jerome Powell speaks during a news conference at the Federal Reserve, Wednesday, Dec. 18, 2024, in Washington. (AP Photo/Jacquelyn Martin) ·ASSOCIATED PRESS
The lone dissenter of the Federal Reserve’s most recent policy decision said she voted against the move to cut rates on Wednesday because “there is more work to do on inflation.”
“Based on my estimate that monetary policy is not far from a neutral stance, I prefer to hold policy steady until we see further evidence that inflation is resuming its path to our 2% objective,” said Beth Hammack, the president of the Cleveland Fed.
But both the dissenter and Fed Chair Powell appeared to agree that a cautious approach to inflation is the right one. And the way markets roared back on Friday signaled that Wall Street may have overreacted to the central bank’s message, which has arguably not changed all that much.
But a new threat to the Fed’s efforts to slow inflation may be emerging. At least, that’s what some market observers are arguing heading into the shortened week and the Washington showdown ahead of the second Trump administration.
As Allianz chief economic adviser Mohamed El-Erian explained in a video on X, there’s a school of thought that believes the Fed is pre-positioning for the coming disruptions of a new Trump era, from tariff battles to immigration labor force shocks.
Rather than the Fed reacting simply to what it sees in inflation data, some see the central bank’s shifting tone as a kind of Trump preemption. For his part, Powell insists that the Fed won’t react to potential policy changes until they are actually implemented and can be properly analyzed.
“Hawkishness in the market and at the Fed has less to do with this trajectory, and more to do with the potential for inflationary policy change like new tariffs,” said David Alcaly, lead macroeconomic strategist at Lazard Asset Management.
FWDBONDS chief economist Chris Rupkey said Trump’s plans for spending, tax cuts, and tariffs risk halting inflation’s climb downward. “After cutting rates at three straight meetings, the rate cuts anticipated over the eight meetings in 2025 will be much less frequent,” he said.
But a lot can happen on the policy front.
“The only thing we can be certain of is that there will be even more uncertainty in early 2025,” said Chris Zaccarelli, chief investment officer for Northlight Asset Management.
Economic data: Building permits, November; Building permits, month over month, November (previously 6.1%); Durable Goods Orders, November (-0.3% expected, 0.3% previously); Durables Ex transportation, November (0.3% estimated, 0.2% previously); Cap goods orders nondef ex air, November (-0.2% previously); Cap goods ship nondef ex air, November (0.3% previously); New homes sales, November (663k estimated, 610k previously); New home sales month-over-month, November (8.7% estimated, -17.3% previously)
