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The S&P broke out to new all time highs Thursday in the wake of the Fed’s 50 basis point cut to the Federal Funds Rate on Wednesday. While it is consolidating a bit today (Friday), as long as it stays above the breakout level of around 5,670 the bulls are in control.

One way to articulate the current narrative is that a soft landing is being priced in. Indeed there were two excellent articles by Greg Ip and Aaron Back in today’s WSJ arguing that a soft landing is now the base case. Both argue that the Fed’s decision to cut 50 is not a sign of panic about the economy but a recognition of the fact that rates are currently too high given the decline in inflation and the modest softening of the labor market with respect to the neutral rate. While nobody knows exactly what the neutral rate is, it is supposed to be the rate which is neither restrictive or expansionary. According to Ip and Back, that rate is around 3.25%-3.50%. Since the Fed forecast two more quarter point rate cuts this year and a 100 basis points more in easing in 2025, they should be close to it by the end of next year.

Back compares Wednesday’s rate cut to the one Greenspan did in June 1995 that resulted in the classic example of a soft landing. While Greenspan started with 25 and did two more 25 point cuts in the subsequent months, that is a function of the Fed being much closer to what was thought to be neutral at the time. Greenspan thought neutral was only 3/4 of a point below where the Fed was before the June 1995 cut. Today, as stated in the previous paragraph, the Fed feels like it is further away from neutral than it was then and so correctly decided to move 50. Again this is not because they are panicked about the economy but because rates are significantly more restrictive than they were in June 1995. As a result, Back – like Ip – is also optimistic about a soft landing.

Aaron Back, “The Fed Aims To Repeat Greenspan’s 1990s Masterpiece” [SUBSCRIPTION REQUIRED], WSJ, Friday September 20, 2024

Greg Ip, “The Fed Has Significantly Improved The Odds Of A Soft Landing” [SUBSCRIPTION REQUIRED], WSJ, Friday September 20, 2024

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I’m far less sanguine about a potential soft landing. That’s because I’m not only focusing on government inflation and employment data but company earnings reports. Consider two released yesterday: Darden Restaurants (DRI) and Federal Express (FDX).

While DRI stock rose Thursday in the wake of its report, that was more about a deal with Uber to deliver food via its app. As I suspected before the report, DRI’s comps continued to weaken in its quarter ended August 25, 2024. Blended comps for all its restaurants declined 1.1% and Olive Garden 2.9% which is an acceleration from declines already seen in the previous two quarter. While DRI didn’t lower its full year guidance for blended comps of +1.0% to +2.0%, to me that’s more a matter of faith than evidence. The current trend will have to reverse in order for them to meet that guidance and I see no reason to think that it will.

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FDX is being taken the woodshed today down 14% as their weak quarterly results did cause them to reduce full year revenue growth and EPS guidance. Had DRI done the same, I suspect its stock would have gotten hit yesterday as well. And – like I said above – I expect it will have to do so based on its comp trend as soon as next quarter. DRI and FDX are macroeconomic barometers for consumer and business spending in my opinion so I wouldn’t take their weak results lightly.

In conclusion, while the market has broken out to new all time highs in expectation that the Fed’s bold move Wednesday will insure a soft landing, if that expectation proves incorrect the market has significant downside at current levels in my opinion.

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