JPMorgan Strategist Warns Stocks Ignore Risks, Sees First Fed Cut in November

Key Takeaway

• JPMorgan's Marko Kolanovic sees diminished prospects for Fed rate cuts this year, expecting the first cut only in November.
• Despite abundant risks like geopolitical tensions and narrow market breadth, equities continue to trade near record highs.
• Kolanovic recommends a defensive strategy, staying overweight on commodities and cash while underweighting stocks.

Diminished Prospects for Fed Rate Cuts

The outlook for U.S. equities has taken a hit as the likelihood of Federal Reserve rate cuts diminishes. JPMorgan's Marko Kolanovic, a highly regarded strategist, noted that "equity markets disconnected even further from bonds on Friday, as equities rallied post-NFP even as rates reset higher and cuts got pushed further out." The Labor Department's report that the U.S. economy added 272,000 jobs in May, surpassing the Dow Jones estimate of 190,000, initially boosted the S&P 500. However, the index closed flat for the day, and the 10-year Treasury note yield surged over 10 basis points to above 4.4%.

Kolanovic also highlighted that stocks are not accounting for a "plethora of risks," including geopolitical tensions, elections, and narrow market breadth. Despite these risks, equities continue to trade near record highs, with elevated investor sentiment and positioning. Kolanovic reiterated a "defensive tilt," advising an overweight position in commodities and cash while being underweight in stocks.

Market Braces for Volatility

Investors are preparing for significant market movements this week, driven by the upcoming consumer price index (CPI) report and the Federal Reserve's interest-rate decision, both scheduled for Wednesday. According to Andrew Tyler, head of U.S. market intelligence at JPMorgan Chase, the options market is betting that the S&P 500 Index will move 1.3% to 1.4% in either direction by Friday. "With CPI and Fed on the same day, there is a possibility of a CPI outcome being reversed by Powell’s press conference," Tyler noted.

Stuart Kaiser, Citigroup’s head of U.S. equity trading strategy, indicated that investors are preparing for a Fed day stock-market move that could be the largest since March 2023. If the month-over-month core CPI exceeds 0.4%, it could trigger a selloff across risk assets, with the S&P 500 potentially falling between 1.5% to 2.5%. Conversely, a core CPI reading below 0.2% could spark a rally of 1.75% to 2.50% in the S&P 500.

Fed's Rate Cut Expectations

A recent poll of academic economists suggests that the Federal Reserve will lower interest rates just once this year, if at all. More than half of the 39 academics surveyed in the FT-Chicago Booth poll expect only one quarter-point cut, while nearly a quarter foresee no cuts. This comes as inflation remains stubbornly high, forcing the Fed to adjust its schedule for reducing borrowing costs.

The poll results come ahead of the Fed's meeting on Wednesday, where rate setters are expected to revise their predictions for rate cuts this year from three to two or fewer. The U.S. Bureau of Labor Statistics will also release its consumer price index data for May on the same day, which will be crucial in shaping the Fed's decision. Karen Dynan, a professor at Harvard University, expressed concerns about "whether higher-than-target inflation is becoming embedded."

Street Views

• Marko Kolanovic, JPMorgan (Bearish on the stock market):

  "Equity markets disconnected even further from bonds on Friday, as equities rallied post-NFP even as rates reset higher and cuts got pushed further out. We see diminished prospects for easing this year, and now expect the first Fed cut only in November."
  "Stocks aren’t pricing in a plethora of risks, including elections, geopolitical tensions and narrow market breadth. Despite these abundant risks, equities continue to trade around record highs, and investor sentiment and positioning are elevated."