Know Faster Than The Fed


An Alternative Data Preview of the September FOMC Meeting

Key Takeaways

  • MacroX, in line with the market, expects no change of policy rate at the Fed’s September meeting
  • The robust labor market and lower inflation outcomes have been largely been in line with Fed projections, but strong Q3 economic data will lead the Fed to revise its growth estimate up from 1%
  • Our model indicates that the market pricing of 100 bps of cuts in 2024 is too dovish, given strong growth and sticky inflation
  • Nowcasting has enabled MacroX to observe the strong growth in real time and call for higher rates since May, which has largely played out with the 2y higher by ~ 100 bps

Since the June Fed meeting, sentiment around the US economy has changed noticeably. MacroX’s nowcasting of US economic growth has consistently shown an economy growing faster than widely forecasted (see here, here, and here). This optimism over the US economy has now become widespread as the economic data has continually surprised to the upside. The Fed has largely signaled a desire to keep rates on hold at its meeting this week but it will also update its economic projections. Our look at alternative data-sourced measures of economic activity leads us to believe the following regarding the next set of Fed projections:

Table 1: Fed Projections from March and June and our anticipated change in September

Our call for the Fed to raise their projections for future rates is based on the US economy growing at a much faster pace than expected earlier this year. The robustness of economic activity will allow the Fed to signal a slower pace of cuts next year (currently ~100bps of cuts priced into 2024). We believe a fair price for the 2024 Fed Funds Rate is closer to 5%, especially if the Fed does signal a further hike this year is more likely than not.

Growth: Accelerating in Q3

MacroX’s nowcast of US growth uses 100+ alternative data signals fed through its AI engine to generate a real-time measure of economic activity. Our nowcast of growth shows growth in the US economy meaningfully accelerated in Q3, growing at ~4%, higher than both the NYFed and Bloomberg Nowcasts but below the Atlanta Fed’s GDPNow nowcast. The acceleration that alternative data is showing is in stark contrast to the “soft data” as the Composite PMI indicated a sharp deceleration in activity in August diverging significantly from our (and other) nowcast(s). 

Figure 1: MacroX’s nowcast of US growth shows growth accelerating in Q3

This acceleration has been driven by an uptick in our satellite and news nowcasts. The increase in our news nowcast is well explained by the rise in positive sentiment around the US economy over the last few months (exemplified by our previous post regarding the yield curve inversion) whilst the increase in our satellite nowcast is most likely due to an uptick in industrial activity – potentially picking up the boom in manufacturing construction occurring.

Figure 2: The acceleration in Q3 has been driven by our news and satellite nowcasts
Figure 3: The prevalence of topics related to recession in the media fell in Q3, having risen following the failure of SVB specifically the topic related to unemployment (gold)

The Fed projected in June for GDP growth to be 1% in 2023 and 1.1% in 2024. Official Q1 and Q2 growth has come in considerably higher than this and, given our (and other) nowcast(s) shows growth accelerating in Q3, we would expect the Fed to sizably increase their projections for growth in 2023 and 2024. Jerome Powell, in his speech at Jackson Hole last month, remarked how “growth has come in above expectations” and that “additional evidence of persistently above-trend growth…could warrant further tightening of monetary policy”.

Table 2: We expect the Fed to revise its projections for growth in 2023 and 2024 higher

Labor Market: Headline measures are cooling but labor demand might be ticking back up

Given the acceleration of output, the Fed could well be worried about this spilling over into a tighter labor market and thus an acceleration in wage growth. However, headline changes to nonfarm payrolls growth have been steadily slowing and the unemployment rate unexpectedly ticked up to 3.8% in August (from 3.5% in July).

Figure 5: NFP growth has been steadily slowing as the economy gets closer to full employment. Source: Bureau of Labor Statistics

Looking at LinkUp and Indeed data, we can see that job postings have fallen from their elevated level in 2022. However, there has been a slight uptick in labor demand in August.

Figure 6: LinkUp and Indeed Job Postings ticked higher in August and tend to lead official Job Vacancies data. Source: LinkUp, Indeed and BLS

The Fed projected the unemployment rate to be 4.1% in 2023 in June and labor market outcomes in Q3 have largely been in line with this.

Table 3: We expect the Fed’s estimate for unemployment to remain unchanged

Inflation: Falling but sticky around 4%

Despite inflation dropping to much more comfortable levels for the Fed over the last few months, our nowcast of inflation continues to show that a strong labor market, robust economic growth, and the end of the easing of supply conditions provide a floor for inflation with core inflation likely to remain around 4% on an annual basis over the next 3 months.

Figure 7: MacroX’s inflation model uses Phillips Curve-based theoretical framework. We see core CPI remaining around 4% for the next few months
Figure 8: Strong labor demand, robust economic growth, and the normalization of supply dynamics all provide a floor for inflation significantly higher than the Fed’s target

The Fed projected PCE inflation to be 3.2% in 2023 and Core PCE to be 3.9% and the latest data, coupled with our inflation projections, seem well in keeping with these outcomes. We therefore expect no major changes to these in the latest projections.

Table 4: We expect the Fed’s estimates for inflation to remain unchanged

Fed Speak and Market Pricing

Our LLM-based model of Fed speak measures how hawkish or dovish the last three months of Fed communications (speeches and statements) have been and currently sees the Fed as mostly hawkish as they remain concerned over the elevated level of inflation and continue to flirt with an additional hike in November.

Figure 9: MacroX’s FedSpeak measure uses the latest LLM technology to measure how hawkish or dovish the last three months of Fed communications have been

Interestingly our hawk/dove measure of financial news – although still predominantly hawkish – has started to tick down and has tended to lead official Fed communications over the last five years:

Figure 10: Financial news (white) has started to become more doveish and typically leads our measure of Fedspeak (gold)

The market, responding to consistently better-than-expected economic data, has dramatically repriced yields higher in the months since the last Fed projections – in keeping with the views expressed by us here in May and here in June.

Figure 11: Market expectations for future rates have increased by ~50bps since the June projections (dark blue to white line), in line with our expectations

Given the strength of the economy and the stickiness of inflation, the 100bps of cuts in 2024 the Fed had anticipated in June seems aggressive and we expect the Fed to raise their projections for rates in 2024 and 2025 next week (with no change for rates in 2023 as they continue to leave the door open for a further hike).

Table 5: We expect the Fed’s estimates for rates to increase for 2024 and 2025

MacroX has favored being paid front-end yields since early May as our nowcasts showed the US economy continuing to grow at a decent clip, well ahead of the official data (and in sharp contrast to the soft data). Much of the move higher we correctly anticipated has already occurred with rates 100bps higher since then. Given our belief that the Fed will increase their projections for future rates higher, we believe there is scope of yields to move even higher but the risks are more balanced at this time.

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