Don't be distracted by the Fed drama

We want inflation to fall while the economy and labor market remain strong. Everyone deserves this, and it’s the reason the Federal Reserve decided last week to pause its rate-cutting cycle, leaving the fed funds target range at 4.25-4.50%. But investors in liquidity products have benefited from the elevated interest rates and should continue to if the pace of easing slows. The yields of most securities that funds and other vehicles hold are based on the market, rather than administered, meaning they tend to track the Fed moves. There’s no better way to see this than looking at the recent asset flows into industry liquidity products since the Fed’s December rate cut and year-end 2024. Offshore/European money funds are experiencing the same growth, hitting a record high of $1.463 trillion recently, according to Crane Data, despite the European Central Bank and the Bank of England cutting rates.

But holding rates steady is not the only way the Fed can help cash investors. Its Reverse Repo Facility (RRP) offers an overnight rate for securities set at or above the lower bound of the target range. It allows money market funds managers (not every liquidity product qualifies) to borrow from the Fed to ensure they receive adequate compensation for most securities they buy. I bring this up because, after years of setting the RRP level at five basis points above the lower bound, in December, the FOMC set it at that lower band, i.e., at 4.25% rather than 4.30%. We have anticipated that move for some time, and the result followed our expectation, as the front end of the Treasury and prime yield curves adjusted down in an orderly fashion. The good news is that market participant usage of the RRP has dropped significantly and marketplace rates have been generally higher. It is also due to good old supply and demand. At present, the marketplace has enough of the former that sellers must offer higher rates. But supply is going to dwindle if the federal government doesn’t raise the country’s debt limit, pushing rates down. Get it together, Congress.

Trump is raging; Powell is seething

In his press conference following the Federal Reserve policy meeting last week, Chair Jerome Powell tried to appear nonchalant about President Trump’s recent remark that he would “demand” rate cuts. But it sure seemed Powell was boiling on the inside. He curtly told reporters he would not discuss Trump’s comments in response to the very first question he fielded and was brusque when asked again. When reporters broadened the issue by asking how the Fed is preparing for potential tariffs, he tellingly responded by saying it’s not the Fed’s job to “criticize” administration policy. But when he made the point again, he added “or to praise.” That didn’t placate Trump, who lashed out at the decision to keep rates steady in a social post. It’s going to be fun watching this clash of the titans over the remainder of Powell’s term. Powell might have a mediator in Scott Bessent, the hedge fund manager whom the Senate confirmed as the new secretary of the Treasury. He has stated that Powell will serve out his term and that the Fed should be independent.