Markets are in a holding pattern just hours before the Fed decision

Dow was off 56, advancers barely ahead of decliners & NAZ slid back 12.  The MLP index declined 1+ to the 287s & the REIT index hardly budged at 440.  Junk bond funds edged higher & Treasuries had selling which raised yields.  Oil hovered near even in the 71s & gold added 5 to 2597.

Dow Jones Industrials

For all the hype that goes into them, Federal Reserve meetings are usually pretty predictable affairs. Policymakers telegraph their intentions ahead of time, markets react, & everyone has at least a general idea of what's going to happen.  Not this time.  This week's gathering of the central bank’s Federal Open Market Committee (FOMC) carries an uncommon air of mystery.  While markets have made up their collective mind that the Fed is going to lower interest rates, there's a vigorous debate over how far policymakers will go.  Will it be the traditional qtr-percentage-point, or 25-basis-point, rate reduction, or will the Fed take an aggressive first step & go 50, or ½ a point?   Fed watchers are unsure, setting up the potential for an FOMC meeting that could be even more impactful than usual.  The meeting wraps this PM.  “I hope they cut 50 basis points, but I suspect they’ll cut 25. My hope is 50, because I think rates are just too high,” said Mark Zandi, chief economist at Moody’s Analytics.  “They have achieved their mandate for full employment and inflation back at target, and that’s not consistent with a five and a half percent-ish funds rate target. So I think they need to normalize rates quickly and have a lot of room to do so.”  Pricing in the derivatives market around what the Fed will do has been volatile.  Until late last week, traders had locked in on a 25-basis-point cut.  Then on Fri, sentiment suddenly shifted, putting a ½ point on the table.  Today traders were pricing in about a 63% chance of the bigger move, a comparatively low level of conviction against previous meetings.  1 basis point equals 0.01%.  But many on traders continued to predict the Fed's first step would be a more cautious one.  The debate inside the FOMC meeting room should be interesting, & with an unusual division among officials who generally have voted in unison.

Here’s what to expect from the Fed’s biggest interest rate call in years

Treasury yields ticked higher as all eyes were on the Federal Reserve’s interest rate decision expected for later in the day.  The yield on the 10-year Treasury was up by around 3 basis points at 3.674% & the 2-year Treasury yield was last at 3.623% after adding nearly 3 basis points.  Yields & prices move in opposite directions & 1 basis point equals 0.01%.  The focus today will be on the Federal Reserve's latest interest rate decision & guidance for the monetary policy outlook.  While a interest rate cut is all but guaranteed, traders are divided about the size of the rate reduction.  A 25-basis-point cut was widely expected until recent days when investors began pricing in a higher probability of a bigger 50-basis-point reduction.  Chances of that last stood at 61%, CME Group's FedWatch tool showed.  Investors are also hoping for hints about what Fed interest rate policy could look like for the remainder of the year & if more cuts are on the horizon.  Fed Chair Jerome Powell is set to give a post-meeting press conference that could provide fresh insights into the central bank's thinking.  The Fed's latest economic projections are also due to be released today.

Treasury yields rise as investors look to Fed rate decision

Mortgage rates came down again last week, & with the expectation that they could fall further, mortgage demand suddenly jumped, especially for refinancing.  The Federal Reserve is expected to make its first interest rate cut in 4 years, & while mortgage rates don't follow the Fed exactly, they are influenced by policy.  It is likely they will move on Fed Chair Jerome Powell's remarks following the decision.  “The most important takeaway is that lower mortgage rates are not only not remotely guaranteed by [the] Fed rate cut. They’re actually already baked in,” wrote Matthew Graham, COO at Mortgage News Daily.  “The directionality depends on the dot plot and Powell’s comments in the press conference. Things could go either way and the volatility could be significant.”  Total mortgage application volume rose 14.2% last week compared with the previous week, according to the Mortgage Bankers Association's (MBA) seasonally adjusted index.  Last week's results included an adjustment for the Labor Day holiday.  The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances of $766K or less decreased to 6.15% from 6.29%, with points increasing to 0.56 from 0.55, including the origination fee, for loans with a 20% down payment.  That is the lowest rate since Sep 2022 & is 116 basis points lower than it was the same week 1 year ago.  “Application activity was up significantly last week, as market expectations of a rate cut from the Fed pulled mortgage rates lower,” said Joel Kan, an MBA economist.  Applications to refinance a home loan jumped 24% from the previous week & were 127% higher than the same week 1 year ago.  Most of those applicants likely purchased their homes in the past 2 years, when rates rose sharply from the record lows seen in the first 2 years of the Covid-19 pandemic.  Even with this large increase in volume, it is coming off a very low base, as the vast majority of borrowers have loans with interest rates well below 5%.  Both conventional & gov activity climbed to the fastest pace of refinancing since 2022.  Applications for a mortgage to purchase a home increased 5% for the week but were still 0.4% lower than the same week 1 year ago.  “It is notable that conventional purchase applications increased to a pace ahead of last year, which also drove overall purchase applications very close to year-ago levels,” Kan said.  “Homebuyers are seeing improving affordability conditions, sparked by lower rates and slower home-price growth.”  

Weekly mortgage demand surges 14% higher as interest rates hit two-year low

The stock market was little changed as investors braced for the Federal Reserve's long-awaited policy decision, with the market still divided on the size of the expected rate cut.  Traders wait to find out how aggressive the Fed will be when it makes its first US interest rate cut since 2020.  The significant policy shift is widely expected, given growing signs that the central bank has managed to cool inflation without severe harm to the economy.  Safe haven gold continues to hover in record territory.