Markets Take a Huge Dovish Turn, Just in Time for Powell’s Speech

Markets Take a Huge Dovish Turn, Just in Time for Powell's Speech

Key employment data is due this morning, but the bigger story may be Jerome Powell in the afternoon.

The Federal Reserve chairman is scheduled to deliver a speech at 2 p.m. ET today. The venue is an event called “Fed Listens: Perspectives on Maximum Employment and Price Stability.”

It could be a big deal because investors suddenly think the central bank will lower interest rates again on October 30. Did you know that market expectations spiked from a probability of just 49 percent last week or over 90 percent on Thursday? (According to the CME FedWatch Tool.)

The quick change in sentiment follows some ugly economic data. On Tuesday, the Institute for Supply Management’s manufacturing index fell much more than expected to its lowest level in over a decade. ISM’s second report yesterday on services also painted a bleak picture.

China Worries and the Fed

President Trump’s trade war against China has been the main issue. It first slowed the global economy, which caused the foreign central banks to lower rates. That threatened to push U.S. interest rates out of sync with the rest of the world. The Fed responded by cutting on July 31 and September 18.

Next, the trade war trickled through to the U.S. economy. Starting with consumer confidence on September 24, domestic numbers started feeling the pain of tariffs. Those worries continued with the ISM reports’ double-miss this week.

Five-year Treasury Bond Yield Index ($FVX.X) showing interest-rate drop over the last year.
Five-year Treasury Bond Yield Index ($FVX.X) showing interest-rate drop over the last year.

The big question now is how much Jerome Powell will address these issues in his speech today. Other Fed members are divided, so it could be even more important if he chooses to discuss the subject.

Don’t forget the Labor Department’s non-farm payrolls report is due earlier in the day, at 8:30 a.m. ET. Normally that’s a huge number, but this time is may be too backward-looking. In particular, two questions could matter more:

  1. Will President Trump and China strike a trade deal next week?
  2. Will the Fed back-stop the market with more rate cuts if the data keeps weakening?

Stock-market bears may struggle to defend their view the answers are “yes.”

Don’t Forget About Goldilocks

Another thing to remember is that lower interest rates can make investors more bullish on stocks. This situation is often described as “Goldilocks.” The economy isn’t too hot, which would cause inflation and raise interest rates. It isn’t too cold, which could trigger a recession. Instead, it’s “just right,” like the porridge.

Goldilocks has been a major theme in this market because of low inflation, rising incomes and steady growth. She’s often been good for “growth stocks,” like technology, because they often have higher valuations. Investors are more willing to pay a premium for growth companies when interest rates are low.

Speaking of growth companies, some former high-fliers have pulled back dramatically in recent weeks. Now could be the time to start scanning for potential opportunities.

In conclusion, the market priced a lot of negativity into the market very quickly this week. But now sentiment is showing signs of turning more positive — especially as investors consider the potential of more rate cuts from the Fed.

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David Russell is VP of Market Intelligence at TradeStation Group. Drawing on two decades of experience as a financial journalist and analyst, his background includes equities, emerging markets, fixed-income and derivatives. He previously worked at Bloomberg News, CNBC and E*TRADE Financial. Russell systematically reviews countless global financial headlines and indicators in search of broad tradable trends that present opportunities repeatedly over time. Customers can expect him to keep them apprised of sector leadership, relative strength and the big stories – especially those overlooked by other commentators. He’s also a big fan of generating leverage with options to limit capital at risk.