All eyes are on Fed meeting, but more hinges on G-20

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Investors are eagerly looking to this week’s two-day Federal Reserve meeting for clarity on whether or when U.S. benchmark interest rates will be cut for the first time in a decade.

But a lot more may hinge on next week’s G-20 summit in Japan, where the heads of the world’s two biggest economies are set to meet to potentially hash out a détente to growing U.S.-China trade tensions.

“Clearly trade is the number one issue, given tensions with China,” Dec Mullarkey, managing director of investment strategy at SLC Management, told MarketWatch. “I don’t think there is going to be a rate cut tomorrow, mainly because the big, pivotal meeting is at the end of the month, the G-20.”

Check out: S&P 500 jumps to within 1% of record as Trump tweets plan for ‘extended meeting’ with President Xi.

Fed Chair Jerome Powell is expected to offer more clues as to whether some signs of an economic slowdown, or Trump’s import tariff policies, might justify a return to monetary stimulus from the central bank after he wraps up the policy meeting on Wednesday.

The current chances of an interest rate cut in June are now only 24%, but jump to 85% for July, according to data from the CME Group

To be sure, expectations for some stimulus from the Fed in the near future have already been priced into U.S. assets, resulting in a squeeze to risk premiums from corporate bonds to equities.

“Today’s a great example of that,” said Ed Al-Hussainy, senior interest rate and currency analyst at Columbia Threadneedle. “There are signals of easing from the ECB and risk rallies.”

The 10-year Treasury note yield briefly touched 2.017% on Tuesday, its lowest point since September 2017.

Read: Fed finds itself in a ‘tough spot’ as 10-year Treasury yield slides to 21-month low

Global stocks also climbed on Tuesday after European Central Bank President Mario Draghi said its tools to boost inflation and growth in the euro-area economy were still in place.

Yet, there already are signs of some fallout from Trump’s trade policies in the U.S., with companies taking a more pessimistic view on things like capital expenditures and hiring.

“You are seeing risks crop up and businesses shelve plans for growth, while they hunker down and see if we can get past this,” Mullarkey said of the recent tit-for-tat with China on tariffs.

Still a Fed rate cut is unlikely until more is known about how the coming U.S. and China trade meeting pans out, said Steven Skancke, chief economic advisor at Keel Point, a wealth advisor to families, companies and endowments.

“They will want to be in wait-and-see mode until after the G-20 meetings,” Skancke told MarketWatch. “Given the current fed-funds rate, there isn’t a whole lot of ammunition for them to use if U.S.-China trade talks blow up.”

Clearly, Trump’s return to the kind trade policies that failed to reduce the U.S. trade deficit when used by former U.S. President Reagan against Japan in the 1980s are likely to complicate global central bank policy for some time.

Daniel Katzive, head of FX strategy North America at BNP Paribas, said that trade and interest rates cut both ways.

“It is hard to convince U.S. negotiators to be more careful when the fixed-income markets are going well,” Katzive said. “Similarly, on the Chinese side, there is less pressure to negotiate if the underlying economy is strong and markets are well-behaved.”