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It’s not easy to be Chair Powell – or any Federal Open Market Committee member – right now. Tariffs and slower immigration have put the dual mandate in tension, forcing judgment calls about how to balance labor-market downside against inflation and inflation expectations upside. At the same time, intense pressure from the Trump administration to ease aggressively – including threats and actions to remove FOMC members – raises risks to individuals in the near term and, over time, to the institution’s independence and credibility.

Powell’s Jackson Hole speech suggested the Fed will err toward protecting the labor market, signaling a cautious cutting cycle beginning in September. July’s sharp downward revisions to payrolls make that stance defensible; in our view, a recession would be more damaging than another year of above-target inflation. This reaction function by the Fed is also more supportive of risk assets.

Meanwhile, President Trump is working to reshape the Fed. He can appoint a new chair when Powell’s term ends in May, add at least one more governor, and potentially influence the selection of regional Fed presidents. On balance, the Fed will likely become more dovish – which, in isolation, is constructive for markets.

But it matters whether the new chair and governors are seen as credible or as political loyalists advocating lower rates with insufficient regard for inflation risk. In the latter case, long-term yields could rise as markets demand more inflation compensation. We already favor short USD and long precious metals for fundamental reasons; in that risk scenario, both would also potentially hedge stocks and bonds.

We thought Powell’s Jackson Hole remarks were well balanced, clearly acknowledging risks on both sides of the mandate. He noted downside risks to the labor market if slower job growth leads to layoffs and a non-linear rise in unemployment. He also recognized inflation will run well above 2% yet again this year, with tariffs expected to push prices higher in coming months.

He cited two additional upside risks: A wage-price spiral – unlikely, in his view, given current labor indicators – and unanchored inflation expectations – still contained and consistent with the 2% target.

Ultimately, Powell judged labor-market downside risks as greater. He all but confirmed a September cut: “with policy in restrictive territory, the baseline outlook and shifting balance of risks may warrant adjusting our policy stance.”

Critically, he also said the Fed should “proceed carefully.” Policy is not on a preset course; the depth of easing is expected to be data-driven. Further cuts are more likely if unemployment keeps rising, while sticky services inflation and higher wages would argue for a pause. Stable forward inflation expectations are enabling cuts and any sign of de-anchoring would likely end the easing cycle quickly.

Exhibit 1: 1Y inflation expectations reflect tariffs: the market-pricing of forward-looking inflation expectations beyond 1y are still stable

Note: US Inflation Swap 1y1y shows the swap contract starting in 1y and running for 1y.

What does this mean for markets? We think the rates market is right to price in two cuts as a base case this year, with some risk of three. We have little argument with the 10-year yield in the 4.25% to 4.5% range, which is where we see fair value – we are neutral on bonds.

Equities and credit should benefit from some degree of a ‘Fed put:’ more easing if the labor market weakens, and slower or halted easing if the labor market stabilizes or financial conditions prove too easy for getting inflation back to 2% sustainably. Pricing out future cuts because the economy holds up should not be a major problem for risk assets; solid nominal GDP growth is consistent with solid earnings.

The primary near-term threat to risk assets is that the Fed is already behind the curve and the economy deteriorates faster than the Fed eases. With initial jobless claims down year-over-year and consumer spending holding up, we see this as a relatively low probability. Still, upcoming jobs reports are critical, and our short USD position vs. the euro helps hedge a sharper US slowdown.

While the Fed navigates near-term policy, the Trump administration is attempting to overhaul the institution. Under counsel from advisors, Trump has held off firing Powell for not cutting sooner. Trump will be able to appoint a new chair when Powell’s term ends next May, and any viable candidate will likely exhibit a more dovish reaction function. Still, it will matter whether Trump selects someone with market credibility (e.g., current Governor Chris Waller) or someone perceived as friendlier to the administration (e.g., the ‘Kevins,’ Hassett and Warsh). The new chair will need to articulate a coherent case for lower rates; otherwise, markets may demand higher term premia.

A chair who is dovish for political reasons would still need to bring the broader committee along, which limits this tail risk. More worrying would be efforts to ‘stack the Fed’ with loyalists, reducing its independence.

The President holds the power to appoint members of the Federal Reserve Board of Governors, and Trump appears intent on using this authority to its fullest extent. So far, he has nominated Miran – a close ally – to temporarily replace Governor Kugler, who resigned in August. He has also moved to remove Governor Cook, a Biden appointee, over alleged mortgage fraud. In addition, both Governors Bowman and Waller were appointed by Trump in his first term, and both dissented in favor of a rate cut at the July FOMC meeting.

If Trump successfully removes and replaces Cook, pending the courts' determination of the action's legality, he will have appointed four out of seven members of the Board of Governors. Moreover, when Powell’s term as Fed Chair ends in May 2026, precedent suggests he would step down from the board, creating an opening for Trump to appoint a fifth governor.

As such Trump appointees are likely to achieve a four-to-five-person majority on the seven person Federal Reserve Board. While they would still not command a full majority of the twelve votes on interest rate policy – since there are five votes held for regional Reserve Bank Presidents – the board plays a critical role in approving new regional fed presidents. It is therefore conceivable, though far from certain, that the board of directors may tend to approve regional Federal Reserve presidents whose policy views are consistent with their own preferences and who may be more receptive to the administration's position. With regional Fed presidents to be appointed in Q1 next year, these risks could become relevant for markets relatively soon.

We doubt that risks around Fed personnel will move markets on a day-to-day basis, particularly if developments become tied up in lengthy legal processes. However, using the ‘boil the frog’ analogy, there could come a point where these risks begin to matter significantly. This tipping point might arise if turnover reaches a critical mass, or if Trump-appointed governors become vocal enough that markets can no longer dismiss their influence. Alternatively, politicization of the Fed could become highly relevant when the macro environment demands impartial, pragmatic policy – for example, if inflation expectations were to start rising.

While markets ‘prefer’ lower rates, the Fed’s independence matters. US Treasuries provide the global discount rate; a credibility shock that pushes yields higher would likely de-rate equities and credit. The USD would likely fall sharply, with reserve-currency optics questioned. We see a full-scale undermining of the Fed as unlikely – taken to extremes, it would undercut the administration’s own goal of lower long-term rates – but it’s a risk worth monitoring.

The Fed has shifted more dovish in response to increased downside risks to the labor market; this is positive for the economic outlook and supportive of risk assets. We remain overweight global equities with a preference for the US and emerging markets. Government bonds are fairly valued, in our view, and remain an effective hedge if the economy deteriorates further, forcing additional Fed easing. We also expect lower rates to increase foreign-investor demand to hedge US exposures, likely putting downward pressure on the USD. We retain exposure to silver, which we expect to continue catching up to gold amid tight deficits.

While not our base case, we must also consider the risk that Trump’s Fed appointments make the institution ‘too dovish.’ The chair decision will likely be made in a few months; in the meantime, we are watching the Lisa Cook situation and, importantly, any other moves to open Board seats or influence regional selections. Should such scenarios start to materialize, we would become less constructive on risk assets. In that environment, our short USD and long precious-metals positions should likely prove effective hedges for both equities and bonds.

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