Softer July inflation paves way for rate cuts in September, say asset managers

July data indicating that inflation continues to cool down suggests the Federal Reserve will cut interest rates by 25 — or perhaps up to 50 — basis points at its next meeting in mid-September, according to money managers.

“The relay race to Fed cuts is on,” said Lindsay Rosner, head of multisector fixed income at Goldman Sachs Asset Management. The July CPI data has “cleared the way” for a 25-basis-point cut in September, she said, “while not completely shutting the door on the chance” of a 50-basis-point cut.

GSAM has $2.8 trillion in assets under supervision.

Josh Jamner, investment strategy analyst at ClearBridge Investments, also expects the Fed to start cutting rates, as it has some assurances that the U.S. economy is indeed headed toward a return to its 2% inflation target over time.

“This helps shift the balance of risks further toward the maximum employment side of the dual mandate, meaning jobs data will likely be under even greater scrutiny in the months ahead,” he said. ClearBridge has $184.9 billion in AUM.

The Bureau of Labor Statistics reported Aug. 14 that the consumer price index rose an annualized 2.9% from a year ago in July — the smallest 12-month increase recorded since March 2021 — below expectations and also slightly below the 3% figure recorded in June.

Economists were expecting a 3% annualized CPI figure for July, according to financial data firm FactSet Research Systems.

Excluding the volatile food and energy sectors, core CPI rose by an annualized 3.2% in June, below the 3.3% pace reported in the prior month, and marking the smallest such 12-month increase since April 2021.

The Fed considers the inflation rate a key factor in its monetary policy decisions. The Fed’s key short-term interest rate is now in a range of between 5.25% and 5.5% after the central bank kept rates unchanged for the eighth consecutive time at its most recent meeting on July 31.

As of the morning of Aug. 14, shortly after release of the CPI data, market players' pricing of Fed fund futures indicated a 58.5% probability the Fed will cut rates by 25 basis points when it issues its next monetary policy decision on Sept. 18, and a 41.5% probability it will cut rates by 50 basis points, according to CME Group's FedWatch tool.

Skyler Weinand, chief investment officer at Regan Capital, said he expects the Fed will cut rates by 25 basis points in September, but also warned that a 50-basis-point cut at that meeting would cause more harm than good as the Fed would be signaling that the central bankers are worried about the health of the economy.

“The Fed wants to show a measured pace in their interest rate movements, which 25-basis-point increments show,” Weinand said. “A 50-basis-point rate cut would signify calamity and may actually shock the stock and bond markets. Even though there were loud calls for a deeper 50 basis point rate cut during last week's stock market volatility, the bar is extremely high for the Fed to cut by 50 basis points.”

John Kerschner, head of U.S. securitized products and portfolio manager at Janus Henderson Investors, noted that despite expectations for a rate cut in September, the bond market has already “rallied a great deal” since the end of July. “We would expect the U.S. bond market to level off at these rate levels and look for more Fed guidance as to whether the rate cut path will be slow and gentle or steeper and more drastic,” he added. Janus has $361.4 billion in AUM.