Federal Reserve Chairman Jerome Powell sent a clear signal that interest rates will move higher and stay there longer than previously expected. Investors are wondering if this means new lows for the lagging stock market.
“If we don’t see inflation start to come down as the Fed funds rate goes up, then we won’t get to the point where the market can see the light at the end of the tunnel and start to turn around.” “You don’t bottom out in a bear market until the Fed funds rate is higher than inflation,” said Victoria Fernandez, chief market strategist at Crossmark Global Investments.
U.S. stocks rose after the Federal Reserve approved a fourth consecutive 75 basis point hike on Wednesday, initially pushing the Fed’s interest rate to a range of 3.75% to 4%, in what investors interpreted as a signal that the central bank will make smaller advances. rate increases in the future. However, a more dovish-than-expected Powell poured cold water on the half-hour market party, sending stocks sharply lower and sending Treasury yields and fed stock futures higher.
To see: What to expect from the markets after the Fed’s 4th straight jumbo rate hike
At a news conference, Powell stressed that it was “too early” to think about a pause in interest rate hikes and said the final level of the federal funds rate in September would be higher than policymakers expected.
According to the CME FedWatch Tool, the market is now pricing in more than a 66% chance of just a half-percentage point hike at the Fed’s Dec. 14 meeting. That would leave the federal funds rate in a range of 4.25% to 4.5%.
But the bigger question is how high the will rates will be. Fed officials had averaged 4.6% in their September forecast, which would have indicated a range of 4.5% to 4.75%, but economists are now pointing to a final rate of 5% by mid-2023.
Read: 5 things we learned from Jerome Powell’s “whip” press conference
For the first time, the Fed also acknowledged that cumulative tightening of monetary policy could ultimately hurt the economy “in a mockery.”
It usually takes six to 18 months to weather a rate hike, strategists said. The central bank announced its first quarterly key hike in March, meaning the economy should start feeling its full effects by the end of this year and won’t feel the impact of this week’s fourth 75 peak. Major score increase until August 2023.
“The Fed would like to see tightening have a bigger impact on financial conditions and the real economy by the third quarter of this year, but I don’t think they’re seeing enough of an impact,” said Sonia Meskin, US macro at BNY Mellon Investment Management. “But they also don’t want to accidentally kill the economy … so I think they’re slowing down.”
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Mace McCain, chief investment officer at Frost Investment Advisors, said the main goal is to wait for the maximum impact of interest rate hikes to translate into the labor market, as higher interest rates push up home prices, followed by more inventory and less construction. less stable labor market.
However, government data showed on Friday that the US economy gained a surprisingly strong 261,000 new jobs in October, beating the Dow Jones estimate of 205,000 additions. Perhaps more encouraging for the Fed was the unemployment rate, which rose to 3.7% from 3.5%.
U.S. stocks ended a volatile trading session higher on Thursday as investors weighed what a mixed jobs report meant for future Fed rate hikes. But major indexes posted weekly declines with the S&P 500 SPX.
Down 3.4%, the Dow Jones Industrial Average DJIA,
1.4% and the Nasdaq Composite COMP,
A decrease of 5.7% is observed.
Some analysts and Fed watchers have argued that policymakers would prefer stocks remain weak as part of efforts to further tighten financial conditions. Investors may think the Fed can withstand too much wealth destruction to destroy demand and prevent inflation.
“That’s still open for debate, because demand destruction won’t be as easy as it could have been with the stimulus components and higher wage cushion that many people have been able to get in the last few years. in the past,” Fernandez told MarketWatch on Thursday. [Wednesday], that’s not what they’re looking at. I think it would be better if they lost some wealth.”
Related: Here’s how the Federal Reserve let inflation hit a 40-year high and rocked the stock market this week
Meskin, of BNY Mellon Investment Management, worries that there is little chance the economy can achieve a successful “soft landing” – a term used by economists to denote an economic slowdown that avoids a recession.
“The closer they (the Fed) get to their estimated neutral rate, the more they try to calibrate subsequent hikes to gauge the impact of each hike as they move into bounded territory,” Meskin said by phone. The neutral rate is the level at which the federal funds rate neither increases nor slows economic activity.
“That’s why they say that sooner rather than later, they will start raising interest rates by smaller amounts. But they also don’t want the market to react in a way that loosens financial conditions, because any loosening of financial conditions could create inflation.”
Powell said on Wednesday there was still a chance the economy could escape recession, but the window for a soft landing this year was narrowing as price pressures eased.
However, Wall Street investors and strategists are divided on whether the stock market has fully priced in the downturn, especially given the relatively strong third-quarter results reported by more than 85% of S&P 500 companies, as well as promising earnings expectations.
“I still think we’re not pricing in a significant recession yet, given the earnings expectations and the market pricing,” Meskin said. “Investors still assign a fairly high probability of a soft landing,” but “the risk from very high inflation and the Fed’s own estimate of a final rate hike means we will eventually need higher unemployment and therefore lower valuations.” ”
Sheraz Mian, director of research at Zacks Investment Research, said margins were better than most investors expected. Total earnings for the 429 index S&P 500 members that have already reported results rose 2.2% year-over-year, beating EPS estimates by 70.9% and revenue estimates by 67.8%, Mian wrote in a Friday article.
And then there are the midterm elections for Congress on November 8.
Investors are debating whether stocks will gain ground after a tense battle for control of Congress, as historical precedent points to a trend for stocks to rise after voters go to the polls.
To see: What the midterms mean for the stock market’s “best 6 months” as the favorable calendar stretch begins
Anthony Saglimbene, chief market strategist at Ameriprise Financial, said markets typically see stock market volatility rise 20 to 25 days before an election, then fall 10 to 15 days after the results are in.
“We actually witnessed that this year. When you look at where we are now from mid-to-late August, volatility has increased and is kind of starting to come down,” Saglimbene said Thursday.
“I think one of the things that allows the markets to put off the midterm elections is the increased possibility of a divided government. In terms of market reaction, we really think the market could react more aggressively to anything outside of a divided government,” he said.