Federal Reserve officials have begun tempering expectations for interest rate cuts, with some even stating that there is currently no reason to adjust rates. As markets had anticipated three rate cuts in the latter half of the year, Verdence Capital Advisors Chief Investment Officer Megan Horneman joins the Morning Brief to discuss why markets (^DJI, ^IXIC, ^GSPC) need to recalibrate their expectations.

Horneman states that the market seems to be adopting "a more realistic" stance regarding what the Fed can accomplish in 2024. She notes that a rate cut in March or June was "way too optimistic," saying she had always believed any cuts would be "a second-half-of-the-year story." With "new interest rate expectation[s]" emerging, Horneman says that markets are now beginning to "reset" to align with these revised expectations.

Horneman expresses concerns, particularly within the labor market and the potential impacts of inflation, emphasizing that persistent wage growth continues to pose "a problem for the Fed."

Horneman attributes part of the economy's resilience to "[Fed Chair] Jerome Powell adopting such a dovish stance at the end of last year." She believes this fueled a resurgence in economic activity, cautioning that this could lead to a resurgence in inflation, making it "a very dangerous line they're walking."

For more expert insight and the latest market action, click here to watch this full episode of Morning Brief.

Editor's note: This article was written by Angel Smith

Video Transcript

SEANA SMITH: --because futures once again pointing lower this morning. Looks like we're going to see losses at the open. Now, this move to the downside coming after several Fed officials struck a hawkish tone this week. Just this morning Atlanta Fed President Raphael Bostic saying that he only sees one rate cut in the fourth quarter this year. This coming after San Francisco Fed President Mary Daly saying, quote, "the labor market is still going strong and growth is going strong, so there's really no urgency to adjust the rate." Cleveland Fed President Loretta Mester also weighing in and echoing a similar stance to what we just heard from Daly, saying that she still sees rate cuts this year, but reiterated once again that the Fed isn't in a rush.

So let's a sense of what this means for you, the investor out there. We want to bring in Megan Horneman, Verdence Capital Advisors' Chief Investment Officer. Megan, it's great to see you again. So how are you looking at the moves, this downward move that we've seen in the market over the last few days and what that signals could be ahead here for investors?

MEGAN HORNEMAN: What we're actually looking at is the market's getting a little bit more realistic as far as what the Fed can do this year. Now, coming into this year, we thought that March was a way too optimistic as far as rate cuts, even June at this point is a bit optimistic. We've always leaned towards the fact that it would be a second half of the year story, so I think markets are adjusting to this. Remember, valuations had risen so high in the expectations that the Fed would cut rates, and now they're just trying to reset with this new interest rate expectation.

BRAD SMITH: What is the new expectation from your purview, Megan?

MEGAN HORNEMAN: We still think it's a second half of the year story. We're getting a little bit more concerned here with what's going on in the market, specifically in the commodity market, what that may mean for inflation in the labor market. We have we started to see some cracks in the labor market. But when you're looking at wages, that's what the Fed's worried about, and wages continue to be something that creates a problem for the Fed. If you look at the ADP report today and you take out those people that left their jobs willingly, their wage increases were 10%. This is the type of stuff that should filter into those wage numbers, and that's going to create that sticky situation the Fed's worried about.

SEANA SMITH: Megan, how much more complicated is this going to make it for the Fed, because you have on one hand, one side of it obviously could potentially drive inflation and make inflation even more sticky, and then also, like you mentioned before, this move higher that we've seen in a number of commodities?

MEGAN HORNEMAN: I think it makes the job very difficult, and I think that they have to articulate that. Part of what we've seen in the past few months with the resiliency in the economy really stems from Jerome Powell taking such a dovish stance at the end of last year. It created a kind of a resurgence in the economy. And we've often said it's a very dangerous line they're walking, because the resurgence in the economy can very easily lead to a resurgence in inflation.

They don't want to get in this stop-and-go monetary policy that they were in the '70s and '80s, and we don't want to see that either. It wasn't good for the economy, it wasn't good for the stock market, so they really need to articulate to markets, to reset expectations. They're not going to cut rates in any time soon, they'll continue to assess the economic data, and it looks more like a second half of the year story.