One view is that the real shock of the jumbo rate hike came a few days ago, when informed suggestions for a super-large hike spread like wildfire across the market. So Wall Street’s rebound was less of a rally and more of the market slightly correcting for having oversold on the rumor.
The alternative view is that Powell gave the market what he wanted and declared war on inflation.
Rate jumps ‘front-loaded’
Not only did he raise on a scale he ruled out a few weeks ago, but Powell also openly admitted that the Fed has made rate jumps ahead of time. That means interest rates are raising more now in hopes of raising less later — in fact, promising to keep rising until inflation starts to fall.
“We want to see progress. Inflation cannot fall until it levels off,” Powell said. “If we don’t see progress… that could lead to us reacting. Soon we will see some progress.”
Overall, Powell’s tone was broadly in line with the wishes of major investors like hedge fund legend Bill Ackmanwho want the Fed to raise interest rates faster so that the markets can take their medicine now and then get relief when it starts to lower.
But like politicians around the world clamoring for central banks to do something to combat the inflation facing their voters, investors must be careful what they wish for.
If markets suddenly want to believe in Powell’s credibility, it’s certainly important to take note of perhaps the most important thing he said at his press conference on Wednesday night: “There is no sign of a broader slowdown in the economy as far as I can see.” .”
This in itself was curious enough, as Powell’s press conference just hours after the new US retail sales data came in well below expectations, suggesting that inflation is highly corrosive. Data showing that credit card debt is skyrocketing and US mortgage applications are plummeting has also worried market observers in recent days.
Winshit is yet to come
But let’s take Powell at his word. His intention was clearly to demonstrate that the US economy is resilient enough to withstand higher rates. But implicit in it is an admission that the rate hikes and monetary tightening the Fed has implemented so far haven’t really had much of an impact on the US economy so far.
This is a very important point for investors. The economic slowdown that the Fed knows it must now cause has not really started yet. For equity investors, this means that the decline in earnings that normally accompanies such a slowdown has not yet started either.
Investors have seen prices fall, but earnings forecasts in the United States and Australia have not been revised downwards so far. Powell says that’s coming.
“The Federal Reserve is going to raise interest rates until policymakers break inflation, but the risk is they also destroy the economy,” said Ryan Sweet, chief of monetary policy research at Moody’s Analytics. “Growth is slowing and the effect of the tightening of financial market conditions and the elimination of monetary policy has yet to hit the economy.”
The idea that the Fed will quickly complete its raising cycle and then orchestrate a classic Fed Put to bail out investors by then cut rates is certainly appealing. But what remains unclear is how high interest rates will need to be to contain inflation and how much demand the Fed will have to take out of the economy.
Powell still believes a soft landing is possible, and it was noteworthy that Wednesday night’s rate hike was accompanied by heroically optimistic projections that unemployment would barely fall.
But as countless observers have said in recent weeks — from former RBA Governor Ian Macfarlane to Wall Street legend Stanley Druckenmiller — it would be unusual for inflation to fall if interest rates don’t rise above inflation at some point.
The Fed’s forecasts currently suggest a terminal rate of about 3.75 percent. Is that really enough?
The best investor advice Chanticleer saw after the Fed’s big move came from Mike Loewengart, head of portfolio management at Morgan Stanley in the US.
“Keep in mind that as we move through a changing monetary policy landscape, we will likely continue to see volatility as the market digests the new normal. Sticking to your investment strategy during waves of volatility is a solid course of action – aka don’t panic.”
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