Movers and SHAKERS
Image Credit: Marco Verch (Flickr)
Will Investors Rework their Positions in Response to Fed Statements?
Will the Fed send any new signals after its May FOMC meeting?
Federal Reserve members have set investor expectations for a 50bp increase in overnight rates after the May 4 meeting. It’s a pretty safe bet. Anything different would severely spook the markets. However, where the surprise may come is in what Chairman Jay Powell says related to the future after the two-day meeting. This could adjust expectations which would cause investors to adjust their portfolios.
A New Wrinkle to Watch
While the markets believe that at the following meeting in June the FOMC will also serve up a 50bp hike, last week’s negative first-quarter GDP report may cause the Chairman to speak more cautiously. And no one has clarity on what the Fed may do after June. One new wrinkle Fed-watchers are aware of is that the negative Q1 GDP, by definition, places us halfway to a recession. If the current quarter also shows negative growth, we are, by definition, already in a recession.
Tightening monetary policy to stop inflation while the economy is shrinking is stagflation.
Investors will be placing every word in the Fed Chairman’s post-meeting statement under a microscope. Inflation is still running at 40-year highs. Interest rates are well below inflation rates creating negative real yields (interest rate minus inflation). Investors prefer to earn above future inflation expectations.So what are the Fed’s expectations? We should know tomorrow afternoon.
Current Market Expectations
The half a percentage point increase expected is considered aggressive. The Fed typically acts in 25 bp moves and then measures the results. Fed Funds are currently targeted at 0.25%-0.50%, so doubling the level truly is unusual. Many economists, based on previous Fed-speak, expect that a similar move will be made in June before the policymakers sit back and let the market absorb their moves.
The Fed has a number of accommodative stances in place that it discussed unwinding beginning this year - market participants want to know if anything has changed. One of them is to begin shrinking its $9 trillion asset portfolio, starting in the first half and at a much faster pace than its sidetracked attempt at passively reducing its holdings went five years ago.
Since Last Tightening
In March, Fed officials lifted their benchmark federal-funds rate to a range between 0.25% and 0.50%, from near zero. They also projected they could lower inflation back to their 2% target without raising the fed-funds rate higher than 3%. They have considered 2% their neutral range where the economy would avoid getting too heated and avoid slumping.
Economic reports released since the Fed’s last 2022 meeting suggest price pressures could remain more persistent as employers continue to give in to higher wage pressures along with price inputs. On Friday, a Labor Department measure of worker pay that is closely watched by central-bank officials showed wages and benefits for private-sector workers continued to rise at its highest rate since 2000.
Fed communication with the public is especially important now because the central bank is relying on market expectations about its future policy intentions to play a major role in removing stimulus without undue costs to the economy.
Bond traders who watch the Fed most closely are expecting a 50bp increase. Not 25bp and not 75bp. The Fed would disrupt the market if they did anything different. It’s future expectations that will be managed both for the overnight lending rate and the more entrenched stimulus that has been in the system as the Fed purchased longer-term bonds. “Mopping” up this stimulus, which has had a very positive impact on economic growth, is tricky.
Chairman Powell’s audience will be listening intently to know what the future holds. In reality, not even the Fed Chair himself knows what is coming in the next year or two. But, the market will at least hear what the top banker is expecting.
The FOMC announcement should come at 2pm on May 4.
Managing Editor, Channelchek
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