Macro

Yardeni Sees S&P Surge Risk with Fed Cut Amid Stagflation Fears

Investor optimism spikes on Fed rate cut speculation, despite stagflation fears and shifting investment strategies.

By Mackenzie Crow

5/15, 11:35 EDT
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Key Takeaway

  • Ed Yardeni warns a premature Fed rate cut could trigger an S&P stock market meltup, potentially disrupting current economic balance.
  • Analysts advocate for a "normalization" of Fed policy, aiming for a 3.5% to 4% funds rate, amidst mixed reactions to inflation and retail sales data.
  • Biden's new China tariffs highlight the intertwining of politics and policy, with potential impacts on the green agenda and US-China trade relations.

Fed Rate Cut Speculation Intensifies

Investor optimism has reached a peak not seen since November 2021, driven by the anticipation of Federal Reserve rate cuts in the latter half of 2024. This surge in sentiment is underscored by a global poll conducted by Bank of America Corp., which reveals a majority of fund managers expect the Fed to lower rates. Despite this buoyant outlook, there's a growing concern as the survey also indicates a downturn in expectations for economic growth and corporate profits for the first time this year. Michael Hartnett, a strategist at Bank of America, warns, "Risk assets are vulnerable to more evidence of stagflation," pointing to the delicate balance markets must navigate amidst these expectations.

Stagflation Threat Looms Large

The potential for stagflation—a toxic mix of stagnant economic growth and persistent high inflation—casts a shadow over the stock market rally. The S&P 500's momentum has waned since reaching a record high in March, amid signs of slowing economic growth and stubborn inflation rates. The upcoming consumer price data is highly anticipated, with the potential to either confirm or alleviate concerns of stagflation. This scenario poses a significant risk to risk assets, as highlighted by Hartnett, emphasizing the critical nature of the upcoming economic indicators.

Shifting Investment Landscape

In response to the changing economic environment, fund managers have adjusted their asset allocations, with cash levels dropping to a three-year low and stock allocations hitting their highest level since January 2022. This shift reflects a growing risk appetite among investors, despite identifying higher inflation, geopolitical tensions, and the risk of a hard landing as the most significant threats. The global survey, which included 209 participants managing $562 billion in assets, illustrates the complex factors influencing investment strategies in the current market.

Street Views

  • Ed Yardeni, Yardeni Research (Neutral on the Federal Reserve's potential rate cut):

    "The concern I have is if the Fed does start to lower interest rates that could create a meltup, and that would be an issue for me."

  • David Kelly, JPMorgan (Neutral on US government bonds and Federal Reserve policy):

    "There’s nothing wrong with 4.5% with a 10-year Treasury."

  • Tom Porcelli, PGIM Fixed Income (Neutral on Federal Reserve policy normalization):

    "This is a recalibration cycle... People hear cuts and that conjures images of the Fed getting aggressive."