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Stock market: It’s all about the Fed

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Stock market: It’s all about the Fed

win McNamee

What about the stock market?

So, what about the Fed?

These days, it seems like one cannot talk about the stock market without talking about the Fed.

In today’s Wall Street Journal article, The performance of the stock market on Wednesday, the headline said it all:

“Stocks edged higher as investors study Fed minutes.”

Thirteen of the first 15 sentences of this article discuss the Fed, essentially asking the question, what will the Fed do in the near term in fighting inflation?

How high the Fed will raise its policy rate at the Federal Open Market Committee’s next policy meeting.

The Fed is widely expected to raise policy rates at its next meeting, but by how much.

In June, the Federal Reserve raised interest rates by 75 basis points, the first rate hike of this magnitude in several years.

Investors expect the Fed to follow suit with rate hikes in July and September.

Fed funds futures had already priced in a rise in the federal funds rate through the end of 2022 on Tuesday afternoon. Yesterday, the odds of the policy rate rising to 3.5% were about 50% by December.

By 2023, policy rates are expected to decline.

Michael Rosen, chief investment officer at Angeles Investments, commented on the market in a Wall Street Journal article, saying,

“The market is pricing in an early scenario where the Fed can control inflation by moderately tightening policy.”

Mr. Rosen concluded,

“That seems optimistic to me.”

But the market is showing that optimism.

stock market behavior

The Fed raised its policy rate by 75 basis points, the largest increase in a while.

Federal Reserve Chairman Jerome Powell and several other Fed officials have been talking about how the Fed is very serious about keeping its policy rate “up” for some time to come, and the Fed is also talking about shrinking its portfolio of securities. ..and, it’s balance sheet…increased by $2 trillion or more over the next few years.

Mr. Powell and his team are campaigning in this way to convince investors, analysts and journalists that what they say is serious.

They will reduce inflation.

However, the stock market doesn’t seem to believe them.

Markets appear to be “optimistic”, as Mr Rosen said, that the slowdown will not be too severe and that inflation will quickly fall back to the Fed’s 2.0% target rate.

The Fed acted two weeks ago, raising policy rates on June 15.

The S&P 500 closed the day at 3,790.

The S&P 500 fell to 3,674 on Friday, June 17, but recovered to 3,845 last night. Note that the market reached 3,912 on June 30.

My view is that since the Fed sharply raised policy rates on June 15, investors appear to be in a battle to determine if the Fed is hitting the brakes and actually bringing inflation down.

And, just this week, we saw that on Tuesday, July 5, the stock market fell sharply in the morning, but closed the day.

Yesterday, the stock market opened sharply lower, but ended the day higher.

We then did an analysis of what was happening in the market, just like the Wall Street Journal quoted above.

Mr. Powell and the Fed appear to have made their case, and the investment community doesn’t believe what Mr. Powell and the Fed say.

Moreover, the bond market does not seem to believe Mr. Powell and his associates.

On Tuesday, in the bond market, the term structure of interest rates turned negative… moderately.

At Tuesday’s close, the 10-year U.S. Treasury note yielded 2.831%. The two-year U.S. Treasury note yielded 2.837%.

The U.S. Treasury yield curve is negative. Implied forecast: There will be a recession, albeit a modest one.

On Wednesday, the 10-year Treasury note yielded 2.929%, while the 2-year Treasury note yielded 2.975%.

Likewise, market participants seem to think the Fed will be fighting inflation for some time, but they don’t think the outcome will be long-term or profound.

As Mr. Rosen said, as noted above, market participants remain fairly optimistic about the future.

ever-changing picture

So what we get is a lot of uncertainty.

The Fed seems to be hinting at what it will do.

Markets responded by saying they didn’t believe what Fed officials told them.

It seems to me that we do have a disconnect, it just adds to the uncertainty.

Also, the stock market opened on a positive note on Thursday.

The S&P 500 rose more than 35 points in the first ten minutes after the market opened.

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