Win McNamee
What about the stock market?
Well, what about the Federal Reserve?
It seems that one cannot talk about the stock market these days without talking about the Federal Reserve.
In today’s Wall Street Journal article about the performance of the stock market on Wednesday, the headline tells it all:
“Stock Markets Inch Higher as Investors Study Fed Minutes.”
Of the first 15 sentences in this article, 13 of them discuss the Federal Reserve, basically raising the question, what is the Federal Reserve going to do in the near term with respect to fighting inflation?
Just how high will the Fed raise its policy rate of interest at its next policy meeting of the Federal Open Market Committee.
It is generally agreed that the Fed will raise its policy rate of interest at the next meeting, but how high will the rise be.
In June, the Fed raised the rate by 75 basis points, the first time such a large increase has been made in quite a few years.
Investors expect that the Fed will follow up with increases in July and September.
Federal Funds futures, on Tuesday afternoon, have priced in a rise in the Federal Funds rate through to the end of 2022. Yesterday, the betting was that there was right around a 50 percent chance that the policy rate of interest would rise to 3.5 percent by December.
In 2023, the policy rate is then expected to decline.
Michael Rosen, chief investment officer of Angeles Investments, comments on the market in the WSJ article by saying,
“The market is pricing in a very begin scenario where the Fed can contain inflation with fairly modest tightening.”
Mr. Rosen concludes,
“That seems optimistic to me.”
But markets are showing this optimism.
Stock Market Behavior
The Federal Reserve has raised its policy rate of interest by 75 basis points, the largest increase in some time.
Jerome Powell, Fed Chairman, and several other Federal Reserve officials have been out speaking about how the Fed is very serious about keeping its policy rate “up” for some time into the future, and the Fed is also talking about shrinking its securities portfolio…and, its balance sheet…by $2.0 trillion or more, over the next couple of years.
Mr. Powell and team are campaigning this way to convince investors, analysts, and journalists, that they mean what they say.
They are going to bring inflation down.
But, the stock market doesn’t seem to believe them.
As Mr. Rosen states, the performance of the market seems to be “optimistic” in not thinking that the economic slowdown will not be too severe and that inflation will quickly retreat back down to the Fed’s 2.0 percent target rate.
The Fed acted two weeks ago, raising its policy rate on June 15.
The S&P 500 stock index closed at 3,790 that day.
The S&P 500 had dropped to 3, 674 on Friday, June 17, but has fought its way back to close at 3,845 last night. Note that the market reached 3, 912 on June 30.
My point is that since the Fed raised its policy rate so dramatically, on June 15, investors seem to have been caught in a battle to determine just how serious the Fed was going to be in terms of keeping its foot on the brake and really bringing inflation down.
And, just this week, we see that on Tuesday, July 5, the stock markets fell fairly dramatically in the morning, only to end up for the day.
Yesterday, the stock market opened significantly lower, yet, closed up for the day.
And, then we get an analysis of what had happened in the market, like the one cited above from the Wall Street Journal.
It seems as if Mr. Powell and the Fed have made their case and the investment community does not believe what Mr. Powell and the Fed have said.
Furthermore, it does not seem as if the bond market believes Mr. Powell and his cohorts.
On Tuesday, in the bond market, the term structure of interest rates turned negative…modestly.
At the close of business on Tuesday, the yield on the 10-year U.S Treasury note was 2.831 percent. The yield on the 2-year Treasury note was 2.837 percent.
The Treasury yield curve was negative. Implied forecast: there will be a recession, although not much of one.
Wednesday, the yield on the 10-year note was 2.929 percent, while the yield on the 2-year note was 2.975 percent.
Again, it appears as if market participants believe that the Fed will fight the inflation battle for a while, but, they do not see that the outcome is going to be long or deep.
As Mr. Rosen stated, as quoted above, market participants remain pretty optimistic about the future.
The Evolving Picture
Thus, what we are getting is a lot of uncertainty.
The Federal Reserve appears to be signaling what it is going to do.
The markets are responding by indicating that they do not believe what the Federal Reserve officials are telling them.
It seems to me we have a real disconnect, just adding to the uncertainty.
And, the stock market opens optimistically on Thursday.
The S&P 500 jumped up more than 35 points in the first ten minutes following the opening of the market.
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