McClellan Chart In Focus: Fed Needs a Half Point Cut Now, and More Soon – By Tom McClellan


The FOMC is expected to cut short term interest rates at its upcoming July 30-31 meeting, but they probably will not cut as much as they need to.  The FOMC is usually slow to do the right thing.

I will repeat the point I have made before, which is that the FOMC ought to outsource the task of setting the Fed Funds target rate, giving that job to the 2-year T-Note yield.  It does a better job of describing where the Fed Funds target should be than the humans do.  This week’s chart again makes that point, showing how the Fed Funds target rate tends to lag the movements in the 2-year T-Note yield.  When the Fed is slow to make the needed response, we get overly fruitful bubbles and overly onerous economic recessions. 

The Fed Funds target is still up at “2-1/4 to 2-1/2%”.  I take the midpoint of that range for the purposes of display in the chart.  The latest data for the 2-year T-Note yield shows it is a half-point below the Fed Funds rate.  So if the FOMC members want to do the right thing, and adjust their target rate to where it should be, they should go ahead and cut a half point now. 

This next chart is one shown in our most recent McClellan Market Report newsletter, and it says that there are going to be falling short term rates over the next 10 months, and possibly longer.

eurodollar COT data versus T-Bills

The red line in the chart is the net position of the commercial traders of eurodollar futures, as reported in the weekly Commitment of Traders (COT) Report, and it is shifted forward by 10 months in order to reveal how the movements of short term interest rates tend to echo its changes after that lag time.  A “eurodollar” in this case refers to a dollar-denominated time deposit in European banks, so this is an interest rate futures contract, and not a currency exchange product.  The eurodollar futures market is the largest and most liquid futures market, which banks use to trade between themselves (and with others) in order to offset their deposit or loan risks.

The message of these COT Report data got squelched by the Fed’s Zero Interest Rate Policy (ZIRP) from 2009 to 2015.  It is being allowed to work again now that Ben Bernanke is gone, and the Fed is trying to normalize its policy.  It foretold the rise in short term interest rates which was finally allowed to commence in 2015.  The peak in short term rates earlier in 2019 was right on schedule, echoing the peak in these COT data 10 months earlier. 

The most recent data show that the commercial traders have been aggressively switching from a once-big net long position to now being net short, and that foretells a corresponding downward move for short term interest rates in the months ahead.  Even if the commercial traders were to reverse course right now and go back to being net long, we would still have to wait through the echo of that drop over the past few months to work its way through the system 10 months from now.  In other words, short term rates are going to be falling, whether the FOMC members know it or not, and they should continue to fall for at least the next 10 months irrespective of what the FOMC does with its target rate.

Tom McClellan
Editor, The McClellan Market Report


Related Charts

Apr 12, 2019

2-Year Yield and Fed Funds Finally in Balance
Apr 13, 2018

Fed is Behind, But Still Screwing Up
Sep 22, 2016

Bond Market Knows What Fed Should Do
Financial Markets and Political Commentary


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About the author

Sherman and Marian's son Tom McClellan has done extensive analytical spreadsheet development for the stock and commodities markets, including the synthesizing of the four-year Presidential Cycle Pattern. He has fine tuned the rules for interrelationships between financial markets to provide leading indications for important market and economic data. Tom is a graduate of the U.S. Military Academy at West Point where he studied aerospace engineering, and he served as an Army helicopter pilot for 11 years. He began his own study of market technical analysis while still in the Army, and discovered ways to expand the use of his parents' indicators to forecast future market turning points. Tom views the movements of prices in the financial market through the eyes of an engineer, which allows him to focus on what the data really say rather than interpreting events according to the same "conventional wisdom" used by other analysts. In 1993, he left the Army to join his father in pursuing a new career doing this type of analysis. Tom and Sherman spent the next 2 years refining their analysis techniques and laying groundwork. In April 1995 they launched their newsletter, The McClellan Market Report, an 8 page report covering the stock, bond, and gold markets, which is published twice a month. They utilize the unique indicators they have developed to present their view of the market's structure as well as their forecasts for future trend direction and the timing of turning points. A Daily Edition was added in February 1998 to give subscribers daily updates on their indicators and also provide market position indications for stocks, bonds and gold. Their subscribers range from individual investors to professional fund managers. Tom serves as editor of both publications, and runs the newsletter business from its location in Lakewood, WA.