Is the Fed set to cut rates later than expected?

Markets have pushed back on expectations of an imminent move to lower rates

Is the Fed set to cut rates later than expected?

To say these have been eventful recent weeks for the US economy would be something of an understatement.

Government data at the beginning of February revealed an unexpected labor market surge last month, with a further report last week showing inflation cooled in January by less than anticipated – signaling an economy that continues to operate at a rapid clip despite Federal Reserve efforts to cool things down.

US employers added a blockbuster 353,000 jobs in January, the Bureau of Labor Statistics said, shattering analyst expectations of 185,000 as wages jumped on an annual and monthly basis.

The consumer price index (CPI), meanwhile, increased by 0.3% between December and January as monthly and annual inflation came in higher than preliminary estimates had anticipated.

All eyes have been on the Fed this year as anticipation of interest rate cuts down the line continues to gather, although market expectations have begun to shift towards a later cut in light of the hotter-than-expected recent data.

The first cut is likely to arrive in June at the earliest, according to economists surveyed by Reuters between February 14 and 20, with a small majority (53 of 104 surveyed) believing that the Fed will trim its funds rate in that month.

Just 33 viewed a May cut as likely – while none thought rates would fall in March, down from 16 in the prior Reuters poll.

That’s not to say expectations have dimmed across the board thanks to the events of recent weeks. While markets had been quick to speculate a March cut could be on the way, First American Financial Corporation chief economist Mark Fleming (pictured top) told Mortgage Professional America he had always viewed a first-quarter cut as unlikely.

He said nothing had changed about his outlook on the timeline for Fed rate cuts in light of the latest labor market and inflation figures.

“I always thought the market expectation for rate cuts early and often, more often than even the Federal Reserve suggested, was overly exuberant,” he said. “Month to month we may not always trend in the right direction, but over the course of the year we will.”

What’s the outlook for the US housing market amid continuing high rates?

Nor should housing market observers expect rate cuts to herald the beginning of another homebuying boom, according to Fleming, with activity likely to trend only slightly higher than 2023 even despite the prospect of lower borrowing costs by the end of the year.

The outlook for the housing market is “better than last year,” he said, “but that’s not hard, given that sales transactions in 2023 reached multi-decade lows.

“Rate cuts, eventually, will bring mortgage rates down, coax more sellers into the market and improve affordability. So better, but only a little bit better this year.”

Housing starts continue to feel the impact of high construction costs

The current high-rate environment, and little clarity on when rates will start to fall, has continued to weigh on housing starts in the US, with construction of new homes plunging in January.

Residential starts were down by 14.8% on a monthly basis to an annualized rate of 1.3 million in January, according to government data released last week, below economists’ median estimated pace of 1.46 million starts.

There was better news on the single-family side, with those permits – which usually provide a good indicator of future starts – rising in January to their highest level since May 2022.

Single-family starts, meanwhile, advanced by 22% compared with the same time last year, exceeding the one-million mark for the third month in a row.

Overall, the likelihood that rates will be lower by the end of the year means there’s “just a little bit” of room for optimism on the housing inventory front for 2024, according to Fleming.

“Most of the lack of inventory in 2023 was because sellers were on strike as rates increased,” he said. “Assuming some mortgage rate relief this year, we should get a modest gain in supply as some sellers are less rate-locked-in.”

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