Fed will raise rates next week, but Powell may be more important

Federal Reserve Chair Jerome Powell speaks at a news conference following a meeting of the Federal Open Market Committee on May 4, 2022 in Washington, DC. Powell announced that the Federal Reserve is raising interest rates by half a percentage point to fight record inflation.

Earn Mcnamee | Getty Images

The next week could come down to what Federal Reserve Chairman Jerome Powell has to say at 2:30 pm on Wednesday.

Powell briefs the press after the central bank’s two-day meeting. The Fed is widely expected to raise its federal funds target rate range by half a percentage point, but warm May inflation data has markets nervous about whether the Fed could be even more aggressive or predict a faster pace of growth. future rate increases.

The Fed will release new economic and interest rate forecasts at 2 pm ET. But it’s what Powell says about the summer and fall rate hikes that could help set the course for turbulent financial markets. Stocks and bonds have been volatile due to investor fears that inflation may not be peaking, and the Fed’s rate hikes could trigger a recession.

“I think the main thing is what Powell talks about at the conference and whether he gives anything that looks like a firm direction for September,” said Michael Schumacher, head of macro strategy at Wells Fargo. “If he does that, he would only do it if it was hawkish, and if it’s not, people will see it as dovish.”

Schumacher said the federal funds futures market was reflecting a 56 basis point rise on Wednesday. A basis point is equal to 0.01 of a percentage point.

After Friday’s much warmer-than-expected consumer price index for May, stocks tumbled. For the week, the S&P 500 was down 4.5% late Friday afternoon.

“The market wants some clear, compelling evidence that the Fed can do this without starting a recession,” said Lori Calvasina, head of US equity strategy at RBC Capital Markets. She said the market will be based on economic data. “Maybe you’re stuck in purgatory for a while.”

Friday’s inflation report was a negative catalyst for markets that were already pricing in hot inflation concerns and recession fears. The CPI rose 8.6% year-on-year, well above the 8.3% expected by economists polled by Dow Jones.

This has also fueled debate over whether the Fed will consider a 75 basis point hike and continue at a more aggressive pace of rate hikes. Both Barclays and Jefferies changed their forecasts on Friday to include a 75 basis point rise for next Wednesday, although other economists are still expecting half a point.

Goldman Sachs economists on Friday revised their forecast to include a half-point increase in September, as well as a half-point increase on Wednesday and another in July.

JP Morgan economists expect Fed officials to provide new interest rate forecasts that reflect a faster pace of monetary policy tightening, but they still see a half-point rise on Wednesday. They expect the Fed’s median interest rate forecast to show the federal funds rate at 2.625% year-end, well above the 1.875% forecast in March.

“Chair Powell indicated a desire to guide expectations rather than blow expectations. With little apparent appetite for a bullish surprise, the course appears set for a 50bp rally next week,” economists at JP Morgan noted.

RBC’s Calvasina said he was awaiting Powell’s comments and did not expect any surprises from the meeting. She said she was encouraged by the fact that some Fed officials appeared ready to raise rates more quickly at the start of the year and leave flexibility later.

“I think the markets like that. It shows they’re not on autopilot,” she said. “It reflects that they don’t want to do too much damage to the economy. I would like to hear more comments about this flexibility.”

In addition to the Fed, there are some important economic reports on the calendar for next week, including the producer price index on Tuesday; Wednesday retail sales; housing starts Thursday, and industrial production Friday. All four reports cover May.

There are only a handful of gains, including Oracle on Monday.

Recession warning?

In the bond market, Treasury yields rose after the warmer inflation report, but the yield curve also flattened. This means that shorter-term earnings, such as 2 years, have increased closer to longer-duration earnings, such as 10 years.

On Friday, the 2-year Treasury yield hit 3.05%, and the spread was just 10 basis points. If the 2-year yield moves above the 10-year yield, the curve will reverse, a sign of recession.

Calvasina said the stock market, for now, is only pricing in a shallow recession. The S&P 500 has dropped an average of 32% in more traditional recessions, and this cycle has dropped nearly 20%.

The strategist said there is a 60% chance that the market has already established a bottom. “I think the reviews have turned out to be reasonable enough that you can go to your shopping list and buy the names you want to buy,” she said.

For equity investors, the Fed remains a challenge, but small caps can be an area that has been defeated enough.

“I think there’s a little bit of thirst out there and a little bit of hunger to chase valuation opportunities, and I think small caps look as good as anything,” she said.

Calendar for the week ahead

Monday

Earnings: Oracle

Tuesday

FOMC starts two-day meeting

06:00 NFIB Small Business Survey

8:30 am PPI

Wednesday

Earnings: John Wiley

8:30 am Retail sales

8:30 am Import prices

8:30 am Fabrication of the Empire State

10:00 am Business inventories

10h00 NAHB house builders survey

2:00 pm Fed statement and projections

2:30 pm Fed Chair Jerome Powell briefs media

16:00 ICT data

Thursday

Earnings: Adobe, Kroger, Commercial Metals, Jabil

8:30 am Initial claims

8:30 am Start of accommodation

8:30 am Philadelphia Fed fabrication

8:30 am Survey of business leaders

Friday

8:45 am Fed Chair Jerome Powell receives welcome remarks at conference on US dollar international roles

9:15 am Industrial production

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