There were no surprises earlier this week with the Federal Reserve keeping interest rates on hold.

After they hiked rates by 0.25% in their previous meeting in July, the Fed left rates unchanged at 5.5%. That’s the highest federal funds rate in 22 years.

They’re also a long way from just 18 months ago when rates were practically zero.

Many Fed officials are predicting one more rate rise before the year is out. But the suggestion from the meeting was clear…

That the Fed is close to done with its rate-rising cycle.

And, given the slow effect of interest rate rises, they’re going to tread carefully from here on out.

The key thing to note here is that this applies to rate moves in either direction…

Flawed Narratives

I’m sure you’ll recall that early this year, analysts predicted that rates would start falling in the second half of 2023.

They suggested that, with inflation coming down, the Fed would cut interest rates. This would help to create a soft landing.

But as this year rolled on, it became increasingly clear that rates weren’t heading anywhere but up.

As I wrote last Friday, the harsh truth about inflation is that it remains sticky. History shows that it’s simply not something that goes away quickly.

And the huge rally in oil this year is only adding more pressure to the inflation mix.

Back in March, WTI crude was hovering around $65 a barrel.

Today it’s trading at over $90.

That’s a huge move in any commodity. And especially in oil which has such a deep effect on the economy.

For as long as oil is trading at these levels, it’s going to keep stoking inflation.

That applies regardless of core inflation, which excludes energy and food.

This means that any interest rate cuts will likely keep moving further away.

The other reason rate cuts are unlikely for now is the economy.

Job Numbers Remain Strong

Despite a massive rise in rates, the economy has remained incredibly resilient.

Take a look at the chart below. Even though non-farm payrolls have trended down since the 2020 peak, the economy is still adding jobs.

U.S. Non-Farm Payrolls

Source: TradingEconomics.com, U.S. Bureau of Labor Statistics

In August, non-farm payrolls came in at 187,000. That’s 17,000 more than the 170,000 forecast. And that’s 30,000 more than the 157,000 jobs added in July and over 80,000 more than in June (105,000).

That’s why the Fed will be closely watching next month’s payroll numbers.

If those numbers continue to climb, then that will show that the economy is still holding strong. It will also reduce the likelihood that the Fed will cut rates anytime soon.

The other jobs number they’ll be watching closely is unemployment.

Despite it also ticking higher last month, the chart below doesn’t show a trend yet.

U.S. Unemployment Rate

Source: TradingEconomics.com, U.S. Bureau of Labor Statistics

With unemployment at 3.8% in August, it’s the same level as it was back in February 2022. And only around 0.1–0.3% above where it’s been tracking for most of the time in between.

Until that figure gets above the 4.1–4.2% range and stays there, the Fed won’t know that the jobs market has passed its peak.

So, although it’s slowing, employment is still holding up for now.

Elsewhere, building permits are also remaining strong, with consumer spending tracking along well.

That’s why at its meeting this week, the Fed upped its rate expectations for the end of next year from 4.6% to 5.1%.

Becoming a Trader’s Market

The key takeaway is that, while rates may not move much higher, they are going to stay higher for longer.

That’s why the market, which always looks to the future, topped out in July…

And has been struggling to make any headway since.

In the meantime, the markets will be watching each new piece of economic data more closely than ever.

Even the slightest surprise could generate some strong breakouts in either direction.

And importantly, see volatility finally pick up.

The great news for us as traders is that this will play straight into our hands.

Regards,

Larry Benedict
Editor, Trading With Larry Benedict

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