Easier Fed Policy This Week

The stock market may continue to climb this week, helped by strong corporate earnings and easier Fed monetary policy.  The Fed is likely to cut another 25 BPs in the funds rate as well as end its bond sales.  Last week's softer-than-consensus September CPI provided more reason for the Fed to be comfortable with policy moving in this direction.  A potential meeting of Chinese President Xi Jinping and President Trump ahead of the latter's threat of an additional 100% tariff could be important for the stock market, as well.

The modest September CPI -- with Total up 0.3% m/m and the important Core up only 0.2% -- should encourage the Fed's belief that its 2% inflation target will be hit eventually.  Boosts from tariffs were still evident, but they did not dominate.  Most of the major Core components, specifically 9 of 15, had prices rising by 0.2% or less.  And, the important Owners' Equivalent Rent (OER)  slowed sharply to 0.1% from its 0.3% trend.  A continuation of this low trajectory would be a significant step toward the Fed's overall inflation goal.  Some private surveys say that rents are falling.  It isn't clear whether the rent declines seen in these surveys are behind the OER slowdown, since the CPI's measure of rents is lagged.  However, if the private surveys are right, they bode well for OER to stay low in future months.  The y/y for both Total and Core CPI was 3.0% in September.  Total has to average under 0.31% m/m during Q425 for the y/y to fall by December.  The Core CPI has to average under 0.25%.

Fed Chair Powell in a recent speech raised the likelihood that the Fed would end its balance sheet reduction program in the near term.  Although he was not specific when this would happen, the soft September CPI would seem to be enough of a reason to do so at this week's FOMC Meeting.  Such a move should be particularly helpful for the housing market, as mentioned in last week's blog.  To repeat, much of the Fed selling has been of mortgage-backed securities.  The spread between mortgage rates and Treasury yields, which has been historically wide, should narrow with the ending of this program.   Mortgage rates would fall by more than would longer-term Treasury yields. 

The other important event this week will be the possible meeting of Trump and Xi Jinping in South Korea on October 30.  Even though Xi appears to have survived the internal political infighting at the Fourth Plenum, some analysts believe he has lost power -- possibly to more pro-Western factions -- within the government and armed forces.  Whatever the case, he appears to be open to a conciliatory approach to US-China trade issues, possibly as a result of the weakening economy and rising unemployment in China.  Pre-talk negotiations between the US and China are reported to have agreed upon a framework for the Trump-Xi meeting.