The Fed’s Third Hidden Mandate By Michael Salvatore, Editor, TradeSmith Daily In This Digest: - Why the easing cycle will be slow going…
- The Fed’s third mandate…
- Oil’s surge gives us a big geopolitical clue…
- The latest Big Money buys and sells…
- The AI trade of 2025 will look nothing like the last two years…
Don’t bet on a rate-cutting spree… When the Fed cut its federal funds rate by 50 basis points a few weeks back, it was hard not to feel optimistic. Lower rates mean a lot more love coming to a lot more varied parts of the market. The cash-rich Magnificent 7 would no longer be the only game in town. Small-caps, real estate, and other down-and-out sectors were set to feel the love. That’s probably still true. It’s just going to take longer than many expected. High wage growth from the last jobs report is partly to blame. But a setback in the inflation fight is the big worry. Core CPI just rose for the first time in 18 months, immediately following the Fed’s first rate cut. Producer Price Index (PPI) inflation is also rising for the first time since June, indicating rising costs in the manufacturing sector. This also doesn’t cover recent revisions higher in both Core CPI and PPI. Accelerating inflation is telling investors to expect a slower rate-cutting campaign. Here’s a key insight from Bloomberg: Traders are pricing in roughly 20% odds that the Fed holds rates steady in either November or December. This time last week, even after Friday’s blockbuster jobs report, swaps still implied more than 50 basis points of cuts by year-end, likely via consecutive cuts. That’s a big change in just one week. The expectations for rate cuts have gone in half… and the consensus is now that the Fed will fall short of its own dot plot projections for 2024. The change in tone might be vindicating one Fed member Michelle Bowman, who dissented on the rate decision – the first such dissent in years – fearing that the bigger rate cut would give an “early declaration of victory” in the inflation fight. And another Fed member, Raphael Bostic, revealed in a Wall Street Journal interview that he projected just one more 25-basis point cut in 2024. Of course, the Fed has a new “threefold mandate”… The Fed’s so-called “dual mandate” is price stability and employment. That’s why it pulls the interest rate and balance sheet levers. These days, however, with runaway federal deficits… the Fed has a quiet third mandate – managing interest on the government debt. Since 2021, the interest expense on government debt has skyrocketed, now close to $1 trillion annually and making up more than 3.1% of U.S. GDP: 
This is clearly unsustainable. A debt spiral threatens the status of the U.S. dollar as the world’s reserve currency – a far worse outcome than higher-than-normal inflation. With this simple fact, we can expect the Fed to continue cutting interest rates into next year. Even if inflation moderates well above 2% as we expect, the priority will be easing the burden on government – even though the next president is unlikely to rein in spending. When oil surges during geopolitical tensions, take note… Oil has been notably higher over the last week, in the aftermath of the recent escalation of conflict between Israel and Iran. It got me thinking of the last time oil rose ahead of an all-out conflict… the months before Russia invaded Ukraine. Russia began amassing soldiers and weaponry on the border of Ukraine in the spring of 2021. It denied any intentions to invade all through the year and into the first two months of 2022… until it finally did. Oil’s uptrend at the time came just a year after prices went negative. It ended the year more than 50% higher than it began… and then kept climbing as it became clear Russia was set to invade. 
Oil prices have a different dynamic today, but the price action over the past few weeks has been noteworthy – especially considering the recent missile barrage on Israel from Iran, following the initial attack in April. 
Oil has broken out of a three-month downtrend in prices, with Iran’s second missile strike against Israel as the catalyst. As I write on Friday, there are reports that Israel is set to retaliate potentially this weekend. Further aggression between the two countries could lead to a situation where Iran chokes off oil supplies. And as we covered early last week, that could reignite inflation much in the way that Russia’s supply cutoff contributed to higher fuel prices throughout 2022. The Fed may believe that inflation is done and dusted, but there are still risks out there. Shopping in the oil sector while prices remain relatively depressed could be a prudent move. Let’s see the latest Big Money activity… As has become Monday tradition here in TradeSmith Daily, each week I like to share some recent Big Money buying activity picked up by Jason Bodner’s Quantum Edge system. Dedicated readers know Jason’s story. He leveraged his experience on Wall Street meeting massive institutional buy orders with willing sellers to learn the telltale signs of Big Money activity. Jason saw firsthand how much Big Money moves markets, especially when it surges into smaller-cap growth stocks. Part of his Quantum Edge scoring system factors in this institutional activity. The other part filters out any company that isn’t a fundamentally strong play. Here’s the latest rankings – of both the top stocks Big Money is buying and the bottom stocks they’re staying away from. 
Last week we noted how Intellia Therapeutics (NTLA), a former Wall Street darling in the gene editing space, graced the bottom of the list. Now, we’re seeing the same activity in a less speculative name, Moderna (MNRA). Moderna was a high-flyer during the COVID years, with the stock going vertical, rising hundreds of percent in the back half of 2021. Its presence in the vaccine market saw to that. Since the peak, though, it’s down by 88%… and the Big Money isn’t looking to grab it from the bargain bin just yet. It gets a 25.9 composite score, with a 33.3 on Fundamentals and a 20.6 on technicals. Point is, if you’re still holding this dog, you might want to finally call it quits. On the positive side, we’re seeing some repeat ideas at the top of the list. A consistent top-scorer is Arista Networks (ANET), currently at one the highest Quantum Scores I’ve ever seen. It earns it. The chart is a thing of beauty over the last five years, it’s never failed to beat earnings expectations, and is in the very sought-after field of cloud computing and network infrastructure. 
This is the perfect example of the kind of stock Big Money flows into. If you haven’t already, I suggest you take some of the names above and put them into your own watchlist. Then, check back here every Monday to see how the top brass of the Quantum Edge system changes. Meantime, you should also check out Jason’s e-letter Power Trends. There he dives deep into stories just like ANET, and keeps you in touch with the latest broad market Big Money moves. Sign up for free here. A coming shift in the AI trade… I mentioned earlier that the advent of lower rates, slow as they may come, mark a major shift in the predominant investment trend. With lower rates, small-cap growth stocks will finally get their due. When money is cheaper to borrow, it lights a fire under these less-capitalized names. At the same time, AI will continue to be a major theme in markets. You’ll just have to look outside of stalwarts of Nvidia (NVDA) and Microsoft (MSFT) to find the best gains. Few investors are prepared for this shift. But Louis Navellier, a friend of ours and 47-year growth investing expert for our corporate partner InvestorPlace, has been preparing his subscribers for months. Here’s how Louis explains the dynamic at play: Smaller-cap stocks are some of the biggest beneficiaries of lower interest rates. Smaller companies tend to have bigger debt loads than larger companies, and when interest rates decline, they benefit handsomely. The bottom line: The Fed's key interest rate cut – and forecast for more rate cuts at upcoming FOMC meetings – was a boon for the stock market, especially smaller-cap stocks. And now that all the uncertainty ahead of the Fed's policy decision has dissipated, I suspect stocks will continue to meander higher in the coming weeks. And as for the kind of stocks Louis targets: I only recommend stocks that are in tip-top condition, and I avoid companies that are seeing their sales and profits shrink. Specifically, every small- to mid-cap stock I recommend must be A-rated with at least 25% sales growth and at least 50% earnings growth. There are a lot of small-cap companies out there claiming to use AI to grow their earnings. But only a few have the numbers to back it up. Louis’ quantitative, data-driven system helps you isolate those names and ignore everything that’s not high-quality. It’s the same system that lead him to recommend Micron Technology (MU) before it rose 2,050%… Lam Research before it ran 4,350% higher… and Intel ahead of a 3,228% run. These were all lesser-known names during the dot-com bubble and bust, but Louis’ system found them… and is finding similarly little-known AI companies today. To learn more about Louis’ process and why Oct. 21 is a key moment for this shift, I urge you to check out his research presentation all about the new era of small-cap AI dominance. You can get all the details right here. To your health and wealth,  Michael Salvatore
Editor, TradeSmith Daily | 
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