The Federal Open Market Committee (FOMC) of the US Federal Reserve (Fed) is scheduled to announce its latest assessment of the economy and its policy stance tomorrow. A large number of market participants are waiting to hear the Fed chairman, with bated breath. I expect a large number of traders in India to stay awake till midnight to hear Mr. Powell, even though they cannot initiate any trade until 9:15AM on Thursday, when the Indian markets open for trading. Therefore, literally speaking, losing sleep to hear the Fed statement is of little consequence.
The market consensus is for a 75bps hike in the policy bank rate and an unambiguous hawkish stance unlike the previous statement in July, when the Fed sounded little ambivalent about the future hikes. Some experts are expecting even a steeper 100bps hike and raise in the terminal bank rate target to 4.5% (from previously estimated 3.75-4%) by April 2023. This implies a total of 200bps expected hike between September 2022 and April 2023; the steepest hike in the past two decades.
Since March 2022, when the Fed started to hike rates to bring down the inflation, an interesting contest has been seen between markets and the Fed.
1. The benchmark S&P500
has moved higher after hearing the Fed on 3 of the 4 occasions. Obviously, the messaging
of the Fed to the market was lacking in clarity and intent.
2. One of the reasons for defiance of stock prices despite sharp rate hikes is that the Fed has not been able to materially influence the long term yields so far. The US yield curve has inverted sharply in the past six months, indicating that the markets are assuming a sharper recession and a quick reversal in the rate hike cycle (as early as 2H2023).
3. The commodity prices have not yet corrected in line with the stance of central bankers and forecasts of severe recession. Bloomberg Commodity Index is still higher than the level it was at the beginning of the rate hikes in March 2022; and so has been the inflation. Consequently, the US rates have become sharply negative severely hurting the savers.
Obviously, more than the action, the Fed perhaps needs to tighten its messaging to the markets. For example, a clear message that the inflation is not seen coming below the Fed’s upper tolerance band at least till the end of 2023 and it would not be prudent to expect a rate cut before 2Q2024, could make the market reactions more congruent to the Fed’s policy stance.
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