By Douglas Porter 

September 20, 2024

Remember: September is the most challenging month of the year for equities. In the past 25 years, the S&P 500 has declined 14 times in September, with an average performance of a sickly -1.7%, and is currently on a four-year losing streak for the month. The TSX has done it one better, falling in 15 of the past 25 Septembers, with an average price change of -1.8% for the month. This year, after seemingly sticking to that historical script for the first week, stocks have since gone rogue, with many major averages charging to an all-time high this week, including both the S&P 500 and the TSX. The proximate cause was clearly the Fed’s mildly surprising 50 bp cut, which the market had really only begun to seriously price in as the FOMC meeting approached. And, even then, the equity market reaction was a bit delayed, as North American stocks only got rolling after an enthusiastic response in Asia and Europe.

Beyond the watershed moment from the Fed, the equity market’s ascent has also been underpinned by a friendly economic combination of much milder inflation and still-decent growth. True, stocks stubbed a toe on Friday, with more focus on FedEx than the Fed, but the bigger economic picture remains supportive. A bit overshadowed by the bulky 50 bp cut was the Fed’s latest collective view on the economy, which still calls for 2% real GDP growth for years to come, but also shaved the inflation outlook to just above 2% for 2025. The August core PCE deflator may first take a bit of a detour, with the 0.2% m/m rise expected to lift the annual rate a tick to 2.7% on a tough base effect (Chart 1). But shorter-term trends are pointing due south, and a looser job market and lower energy prices could help indirectly grease the slide.

The Fed has officially shifted from a laser-like focus on inflation, to equal concern on the softer job market. A key change in this week’s Statement, which had many more changes than normal (unsurprisingly), was the highlighted addition to: “The Committee is strongly committed to supporting maximum employment and returning inflation to its 2 percent objective.” And the projections for the unemployment rate took a step up for this year (by four ticks to 4.4%) and in both 2025 and 2026, to a bit above the long-run assumption of 4.2% (where the jobless rate just happens to currently sit). As Powell intoned in August, he does not seek nor welcome a further rise in that rate above what is perceived to be neutral.

Given the concern that the job market may soften too much for comfort, a mild surprise after the aggressive 50 bp cut was that Powell was quick to call “time” on expectations of further large rate chops. Taking the dot plot at face value, most FOMC members expect a rather stately path of future trims, pointing to 25 bps at the next two meetings, and then perhaps every other meeting in 2025 and early 2026. We find our call now in sync with the Fed on the end point (2.75%-to-3.00%), but suspect that a further moderate rise in the jobless rate and calmer inflation will get them there sooner than they anticipate. For now, we look for a 25 bp cut at each of the next four meetings, but markets expect at least one more 50 bp cut in that spell and expect fed funds to drop below 3% a year from now. That relatively speedy trip down is also getting fully baked into equity markets, potentially setting up for some mild disappointment at some point next year.

We generally don’t wade far into geopolitical matters, as their economic impact is often wildly exaggerated. However, it is truly impressive how the market has managed to look through a lot of geopolitical risk. The U.S. election is now little more than six weeks away, and in just the past week alone there was: a second assassination attempt on the former President; a looming showdown on a government shutdown (likely to be averted for a few months); and of course lots of fiery rhetoric, albeit with fewer mentions of pet consumption. Abroad, Russia warned on nuclear war with NATO, and there’s been a serious escalation of the clash between Israel and Hezbollah. On the economic side, China printed more soft data, this time on retail sales and industrial production for August, and the softness in that economy may have informed profit warnings from some multinationals this week (FedEx and Mercedes to cite but two).

Somehow, Canadian markets have also managed to look past some minor domestic political drama. That comment is partly in jest, but there was once a time when domestic politics did have an outsized impact on Canadian rate markets—see the 1990s. Those days are clearly, and appropriately, long gone. The possibility of an early federal election, put to bed for now, has not made waves. The TSX is instead focused on a much more constructive inflation and rate environment; after woefully underperforming for much of the past two years, the index has caught a tailwind from falling yields and is now up more than 20% y/y.

The two major events for Canada this week each surprised on the dovish side of the ledger. First up was the August CPI, which saw an outright decline in prices and a drop in the annual rate to 2.0%—meeting the BoC’s target for the first time since early 2021. (We will point out that since the pandemic began, lo those 54 months ago, inflation has averaged a 3.6% annualized pace.) The core rates were mostly favourable as well, with median prices up just 2.3% y/y. And, as many were quick to note, inflation was a mere 1.2% ex-mortgage interest costs. This news arrived soon after Governor Macklem suggested that further downside for growth or inflation could readily prompt the Bank to cut faster and deeper. Then the Fed took its big step. Suffice it to say that it’s now hard to find anyone arguing against some outsized BoC cuts.

The lone argument standing in the way of faster rate action from the Bank is the possibility that core inflation could reignite. And we cannot completely dismiss that possibility. Wage pressures certainly are still lingering, with a pilots’ strike at Air Canada only averted by a large four-year pay hike. The housing market remains in a slumber, but we all know that bear can awaken quickly and with a fearsome appetite. And, finally, the Canadian economy has been showing some signs of stirring from its sleepy 1% pace of the past two years. Retail and manufacturing sales were both solid in July, pointing to some potential upside for next week’s monthly GDP release (the flash estimate called for a flat result). The Bank is now openly gearing policy to reviving growth—it’s possible that the process may already be underway.

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This week’s theme was clearly 50. The Fed’s supersized 50 bp rate cut was the first such step by a G10 central bank in this cycle, and opens the door wide for others to follow. Markets are now priced for a greater than 50-50 chance that the Bank of Canada will cut by 50 bps as well in its upcoming October 23rd meeting, in part because headline CPI fell by 50 bps last month to 2.0%. The ECB is now widely expected to cut rates by 50 bps by the end of the year, if not in one gulp. In politics, while the polls are nudging the U.S. Presidential race a bit away from a 50-50 proposition for the 50 states, it’s still looking like the Senate race may end up deadlocked at 50-50. Even baseball took a cue from the Fed, with Shohei Ohtani becoming the first player ever to reach the 50-50 club, with 51 homeruns and 51 stolen bases amid a showy 10 RBI game. Finally, the NHL preseason starts this weekend—it’s true!—and it’s obviously the Leafs’ year because, you know, it’s been more than 50 years.

Douglas Porter is chief economist and managing director, BMO Financial Group. His weekly Talking Points memo is published by Policy Online with permission from BMO.