Why these analysts say investors may not care if the Fed doesn’t cut rates in Sept

Investing.com - Investors are widely betting that the Federal Reserve will cut interest rates at its next gathering in September, especially after data earlier this week pointed to potentially muted inflationary pressures.

Headline consumer price growth in the U.S. was slower than anticipated on an annualized basis in July, encouraging wagers that inflation in the world’s largest economy is not being re-fueled yet by sweeping American tariffs. Still, producer prices rose at a faster-than-anticipated rate, with the cost of services spiking in particular.

However, a soft jobs report for July, which also came with sharp downward revisions to employment additions in June and May, remains at the core of the case for the Fed to slash rates next month.

Following the nonfarm payrolls release, several Fed policymakers have hinted at a greater willingness to back rate cuts, rather than stick to their multi-month "wait-and-see" approach to future policy decisions.

Previously, chief among their worries were fears that President Donald Trump’s aggressive trade agenda could drive up inflation and weigh on wider economic activity. But with the labor market possibly beginning to cool and consumer price gains tepid, investors are wagering that the Fed may have more room to slash rates without kick-starting a surge in inflation. In theory, a rate cut could spur businesses to spend and invest in hiring.

The Fed will still have another nonfarm payrolls and inflation report to pour over before its September 16-17 meeting.

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In a note, analysts at Capital Economics said a quarter-point cut by policymakers is "now largely discounted in the markets," meaning that Treasury yields would likely increase should the Fed not deliver on the reduction. This could place pressure on firms by reducing the present value of their future earnings.

"Yet even if Treasury yields did rise, the problem with the simple argument is that it ignores the potential influences of [the rate-setting Federal Open Market Committee’s] the decision and related communications on appetite for risk and expectations for growth, both of which often have a bigger influence than Treasuries on equity prices," the Capital Economics analysts led by John Higgins said.

The analysts added that they anticipate S&P 500 earnings yield will continue to edge down, while forward-twelve-month per-share income will keep growing, feeding into their forecast for the benchmark index to climb to 6,750 and 7,250 at the ends of 2025 and 2026, respectively. On Friday, the S&P 500 ended at 6,449.80.

"We wouldn’t feel the need to revise these forecasts back down if the FOMC failed to cut rates next month, provided its main justification [was] lingering concern about high inflation," the analysts said.

"But we also wouldn’t feel the need to revise the forecasts even higher if it started loosening policy again mainly due to concerns about the economic outlook."

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