Pro Perspectives 5/4/22

May 4, 2022

Let's talk about the Fed meeting today …
 
First, there were no surprises.  The Fed had telegraphed a 50 basis point rate hike.  The market had it priced in.  That's what they delivered. 
 
The Fed had also telegraphed the start of quantitative tightening.  As we discussed yesterday, given the recent history of their 2017-2019 failed effort to trim the balance sheet (they were forced to return to QE), we expected them to tread lightly on the balance sheet issue.  They did.
 
They are starting small, and watching.
 
As we discussed yesterday, a careful and conservative Fed messaging should be positive for stocks.  
 
Markets liked it. 
 
Then, when Powell said they are not considering something as aggressive as 75 basis point hikes, stocks took off. 
 
Add to that, the Fed has projected to return the Fed Funds rate to what they deem to be the neutral level (neither accommodative, nor restrictive to economic activity).  That's around historically normal levels of 3% (maybe between 2% and 3%).
 
And, importantly, he said that they will not consider whether or not they need to get restrictive until they get to the neutral level. 
 
As it stands, that will be in early next year.  And in case you think they might surprise us with something in the interim, he said, flatly, that the world is uncertain, and that the Fed would do nothing to add to the uncertainty.
 
So, the Fed has just told us that they will not raise rates in a way that will become "restrictive" to the economy, until at earliest next year.  Moreover, for much of the rest of the year, they will continue to be accommodative.  
 
So much for slamming the brakes on the economy. 
 
With this in mind, we came into the year expect a major "regime shift" for markets — to adjust for a high inflation, rising interest rate world. 
 
The adjustment hasn't been pretty.  When we heard the December minutes from the Fed, on January 5th, as they discussed strategy for rate liftoff and balance sheet reduction, markets began to price in the worst case scenario.  
 
That was anticipation of Fed action. 
 
Today, we got the actual Fed action (which included QT).  As you can see in the chart below, this looks like the classic, sell the rumor (assume the worst), buy the fact (on a rational action).

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