(BFM Bourse) – Sensitive to the tone and words chosen by Jerome Powell, global markets rocked this week as the Fed Chairman warned that the monetary adjustment cycle will be faster than in previous episodes. The pace of balance sheet reduction that the central bank decides to adopt could nevertheless have a considerable impact on equities, warns an expert.
Just look at how markets stiffened ahead of the Fed’s first monetary policy committee (FOMC) meeting, not to mention the sudden bouts of volatility during and after the Fed’s speech. boss of the institution, to understand that central banks are still guiding the stock markets at the start of the year. While the all-powerful Fed has remained relatively ambiguous about its rate hike schedule, investors were clearly not reassured by the more restrictive than expected tone adopted by “Jay” Powell during his post- FOMC.
The Fed’s meeting, and its chairman’s speech, thus “caused the market to reconsider the pace of the central bank’s rate hikes: these could be more frequent than a single hike per quarter, the probability of “a rise of 50 basis points in March having risen to 50%” according to Fed Funds Futures – futures contracts reflecting market expectations of the key interest rates of the Fed at the time of their expiration – remarks Sébastien Galy , strategist at Nordea Asset Management.
If there was only one sentence to remember from Jerome Powell’s speech, he believes it would be this: “We will probably end up doing a little more than what the market had expected”. Understand that it is now “very likely” according to the expert that quantitative tightening, that is to say the reduction of the Fed’s balance sheet, will begin some time after March. “The rate of reduction will be faster than during the first episode of 2017, confirming what many participants had mentioned during the previous FOMC” he adds.
Towards 6 to 7 rate hikes
“This surprise on the rates and the balance sheet of the Fed suggests that the recent fall in the equity market is not strong enough for the Fed to react to it” continues Sébastien Galy. If it takes the trouble to spare the susceptibility of investors by remaining ambiguous, the institution seems in fact to focus more on its mission of price stability and therefore “on middle-class households which are much less invested in the stock market”. “European and Asian stock markets did not welcome this aggressive surprise. [et] the question now is when the Fed will stabilize market expectations for interest rates.”
“It’s a safe bet that it faces still galloping inflation, especially that of rents (less sensitive to rates). This suggests that it will take a few more weeks, perhaps until the March meeting, to fully understand the trajectory of the Fed” predicts Sébastien Galy again. The other real question lies, according to him, in the pace of reduction of the balance sheet of the institution, which “can have a considerable impact on the equity markets”, whose expansion has been observed over the past two years despite the health crisis, carried by the liquidity injected by the central banks.
“For the moment, the Fed has decided to raise its rates more quickly than in 2017, which is problematic,” he judges. Especially as more and more experts are revising their expectations of rate hikes in 2022 upwards, with Bank of America now expecting an increase at each meeting of the central bank, i.e. seven over the year. An opinion notably shared by the powerful boss of Goldman Sachs Jamie Dimon, who was already counting on “6 or 7 increases in 2022” before the Fed meeting.
Quentin Soubranne – ©2022 BFM Bourse