Federal Reserve – Wall Street Braces for 3 Rate Hikes By June
The Federal Reserve on Wednesday said it will finish winding down crisis-driven asset purchases before its mid-March meeting, likely just in time for the first rate hike of the cycle. The 2 p.m. ET policy announcement largely tracked with Wall Street’s expectations. With investors on edge for a hawkish surprise, the stock market initially extended Wednesday’s already-strong gains. But the rally faltered during Fed chief Jerome Powell’s press conference as short-term government bond yields jumped.
Powell stressed two things. The Fed needs to position policy to address the risk that high inflation will persist, even though that’s not the base case. And the economy and household finances are strong enough to handle Fed tightening. The subtext was that a stock market drawdown, unless it’s really severe, won’t stop the Fed from steadily tightening policy.
In reaction, the 2-year Treasury yield has spiked to 1.2%, up about 18 basis points since before the Fed policy announcement on Thursday.
According to the CME Group FedWatch page, markets are pricing in nearly 75% odds of three quarter-point rate hikes over the next three Fed meetings through June.
In the absence of clear evidence that inflation is waning, “we think the Fed tightens at each meeting,” wrote Deutsche Bank’s U.S. economics team led by Matthew Luzzetti. Deutsche Bank now sees quarter-point hikes at the March, May and June meetings, with two more later in the year.
Stock Market Reaction To Fed Meeting
After the Fed meeting, the stock market initially extending healthy gains from earlier in the trading day, then reversed lower into negative territory as Powell spoke.
The Dow Jones industrial average fell 0.4%, while the S&P 500 lost 0.15%. The Nasdaq composite, which had borne the brunt of Fed fears to start the year, rose as much as 3% on the session, but turned negative as Powell spoke, before closing just above break-even.
Double-Fisted Tightening On The Way
The stock market fell into correction this month amid a realization that the Fed is way behind the curve and will resort to double-fisted tightening to try and regain control of inflation.
The Fed has its work cut out for it to shift monetary policy from being wildly accommodative to something close to neutral. That means policymakers will tighten with both fists — hiking the federal funds rate and shrinking the balance sheet. And they’ll likely want to keep at it for a while, despite any modest softening of economic data. The main risk now, in most policymakers’ view, is that inflation will continue to run too hot amid easy financial conditions. If that happens, the Fed would be forced to tighten even more aggressively. That’s the typical recipe for a recession.
