Pro Perspectives 4/5/22
April 5, 2022
On January 5th, the minutes from the December Fed meeting spelled out exactly what Jay Powell had told us just weeks earlier in his (December) post-meeting press conference.
What was the message?
The Fed had set the table for a March liftoff in rates. And they had contemplated a strategy for shrinking the balance sheet (i.e. quantitative tightening!).
In this chart below of the S&P 500, you can see where stocks were, when this news hit.
This reality that the Fed was going to become inflation fighters set off a broad sell-off. It was largely led by the high valuation/ high growth stocks and the high growth/no eps stocks.
Valuations began to reset for a world where a higher discount rate would be plugged into Wall Street models. With that, the broad market forward P/E has since fallen from around 22x to 18x (still a bit above the long-term average P/E of 16x).
Now, with all of that said, we have Fed minutes tomorrow.
The minutes will be from the March meeting. And we will learn what was said in the meeting that kicked off the inflation fight (i.e. the first post-pandemic rate hike).
On that note, we got some clues today from Lael Brainard.
Brainard, who just months ago was up for the Fed Chair position (and has since been appointed Vice Chair), gave a well-scheduled prepared speech this morning.
What were the takeaways?
On policy, she said "it's of paramount importance to get inflation down." She said they will continue to tighten "methodically" through rate hikes. And she said they will shrink the balance sheet "more rapidly" than they did in the previous recovery.
The latter is not news. Jay Powell told us in December that they would be more aggressive in reducing the balance sheet in this hot economic recovery, with hot inflation (relative to the weak recovery, and weak inflation of 2017-2019… the previous period of quantitative tightening).
What is surprising is that Brainard used the word "methodically." Setting the expectation for autopilot like rate hikes doesn't do much to curtail inflation expectations.
When Ben Bernanke was asked about the inflationary risks of QE, back in 2010, he said dealing with inflation is no problem. "We could raise rates in 15 minutes."
That kind of intermeeting large adjustment in rates would go a long way toward resetting the inflation trajectory — quickly. So far, it doesn't appear that the Fed has given any consideration to it.