Wall St Week Ahead-Fed Rate View in Focus as Robust Stock Year Comes to an End

(Repeat of story first published Friday with no text changes)

The Fed widely expected to cut rates by 25 basis points on Wednesday

Some investors are bracing for a ‘hawk-like cut,’ with the Fed proposing a pause in the easing cycle

S&P 500 rises 27% in 2024, with Nasdaq breaking the 20,000 mark as the latest stock milestone

NEW YORK, Dec 13 (Reuters) – A banner year for U.S. stocks will face one of its last big tests at next week’s Federal Reserve meeting, as investors await the central bank’s guidance on interest rate cuts.

The Nasdaq Composite index crossed the 20,000 mark for the first time ever last week, a new milestone for stocks in a year in which the tech-heavy index is up 32%, while the S&P 500 is up about 27%.

Expectations that the Fed will cut rates have supported these gains. But while the central bank is expected to cut borrowing costs by another 25 basis points next week, investors have tempered their expectations about aggressive policymakers next year due to robust economic growth and persistent inflation.

Bond yields, which move opposite to Treasury prices, have risen in recent sessions as a result, pushing the U.S. 10-year yield to a three-week high of 4.38% on Friday. While stocks have risen despite the rise in yields, the 10-year yield is approaching the 4.5% level that some investors have identified as a potential tripwire for broader market turbulence.

“Anything that results in expectations that the Fed might move even more slowly than investors expected could cause some minor downside for stocks,” said Jim Baird, chief investment officer at Plante Moran Financial Advisors.

The trajectory of monetary policy is closely watched by investors as interest rate levels dictate borrowing costs and are a key input in determining stock valuations. Interest rate expectations also influence bond yields, which can reduce the appeal of stocks if they rise because Treasury bonds are backed by the U.S. government and are considered virtually risk-free if held to maturity.

Fed fund futures pointed to a 96% chance that the Fed will cut by 25 basis points on Wednesday when it makes its policy decision, according to data from CME FedWatch on Friday.

But the path for rates next year is less certain. The Fed Fund Futures imply that rates will be at 3.8% in December next year, down from the current level of 4.5%-4.75%, according to LSEG data. That’s about 100 basis points higher than what was priced in September.

The summary of economic projections released by the Fed at the meeting will provide an indication of where policymakers see interest rates going. When the summary was last published in September, officials expected an average rate of 3.4% by the end of next year.

One sign of possible support for a slower pace of austerity came from Fed Chairman Jerome Powell, who said this month that the economy is now stronger than the central bank expected in September.

Another factor that could make Fed officials more cautious about future cuts is the presidential election of Donald Trump, whose pro-growth economic policies and pro-tariff policies are raising concerns about stronger inflation next year.

Analysts at BNP Paribas said they expect a “hawk-like cut,” with the central bank likely to “open the door to a pause in further indefinite cuts.”

Carol Schleif, chief market strategist at BMO Private Wealth, said markets “will try to gauge how concerned the Fed is about inflation.”

November data released last week show that progress in lowering inflation toward the U.S. central bank’s 2% target has virtually stalled.

Still, analysts say market momentum favors more year-end gains, while investor sentiment in surveys remains bullish – although some market technicals suggest the rally in stocks may have been protracted.

The percentage of Nasdaq voters hitting a 52-week high has fallen since the rally after the Nov. 5 election, implying fewer stocks are supporting the advance, Adam Turnquist, chief technical strategist at LPL Financial, said in a note Thursday.

“History suggests the tech-heavy index needs a breather before resuming longer-term momentum,” Turnquist said. (Reporting by Lewis Krauskopf; Editing by Ira Iosebashvili and Nick Zieminski)