The March retail sales report surprised to the upside, coming in at 0.7% from the month prior versus the anticipated 0.4% gain. Roth MKM's Chief Economist and Macro Strategist Michael Darda joins the Morning Brief to discuss the implications of this report for the Federal Reserve's rate cut plans, calling it a "body blow to expectations."

Darda notes that earlier this year, markets had priced in expectations for six to seven rate cuts. However, that outlook has now dwindled to less than two rate cuts. With "several months of hot inflation readings" combined with the better-than-expected retail sales data, in Darda's view, this leaves the Fed with little choice but "pushing back in terms of when they would likely start to entertain any kind of a notion of easing monetary policy."

Darda believes rate cuts could materialize later in 2024. However, he expects monetary policy to only begin easing once "it's much more obvious that the economy is losing steam." Darda warned of two potential "tail risks": the Fed waiting too long and causing "issues with earnings," or easing too soon and risking "a reacceleration, high inflation risk." He characterizes the Fed's rate cut timing as a "balancing act."

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

This post was written by Angel Smith

Video Transcript

- Retail sales jumping 7/10 of a percent in March compared to the prior month. That was above expectations. And February's reading, that was also revised higher. So with this data, along with the backdrop of a strong labor market, what does this mean for the Fed's path towards cutting rates?

Let's bring in Michael Darda, ROTH MKM chief economist and macro strategist. Great to have you here with us this morning, Michael. I want to get first your response to what this means for the Fed.

MICHAEL DARDA: Thanks for having me on. Look, I think this is another body blow to expectations for near term Fed rate cuts, which have already really been backed out pretty materially. But if you remember, we came into the year and markets were expecting 6 to 7 Fed rate cuts. Now, it's less than two.

And so we have several months of pretty hot inflation readings. And now, this March report on retail sales, we had some upward revisions and the numbers came in much better than expected. So I think in this environment, the Fed is simply going to be pushing back in terms of when they would likely start to entertain any kind of a notion of easing monetary policy. The data, at this point, based on the criteria they laid out previously just does not support it.

- Michael, what's your base case just in terms of then how many cuts you are expecting? Is it two still a sure thing, or do you think maybe it's more likely we could get one, or potentially none at all?

MICHAEL DARDA: My view has been that I do think the Fed eventually will get around to lowering policy rates and easing this year, but it's going to be back half of the year loaded. I think they're going to be very reluctant to start that process until it's really much more obvious that the economy is losing steam, and that some of these stickier measures of inflation, which have been hot recently, are starting to ease. And that's going to take some time.

And so what I'm worried about is if the Fed really waits until it's obvious that the economy is weakening, and we don't have that at this moment in time, they're likely to be behind the curve. And so that's really the balancing act for the Fed here. The two tail risks are if they wait too long and the economy turns down, then you're going to have issues with earnings. If they ease too soon or buy too much, you know, then you have a re-acceleration high inflation risk that could hurt valuations.

And risk markets really aren't considering either scenario. We're basically priced to perfection here. And what do we have? Long-term interest rates are moving back up towards the cycle highs. And so that's a problem for these lofty valuations in my view.