(Bloomberg) — Wall Street traders cheered Wednesday when Federal Reserve Chairman Jerome Powell signaled he sees no upcoming interest rate hikes despite inflationary pressures. The celebration did not last long.
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For a brief period, US stocks looked poised to unleash the biggest post-policy meeting rally since December, while Treasury yields across maturities fell more than 10 basis points. The relief trade began when Powell told reporters, “It is unlikely that there will be another rate hike.”
The problem is, Powell did not explicitly signal that a rate cut was going to happen this year, and said it would probably take more for central bankers to gain enough confidence to consider a downward inflation policy. It will take time. That reality check led to a sudden reversal in equities, which closed lower on the day. Treasury yields moderated their decline somewhat, with the policy-sensitive two-year yield remaining below the 5% threshold – but not by much.
“Powell made it clear that the hurdle for a hike is incredibly high,” said Michael De Pass, global head of rates trading at Citadel Securities. “They ultimately find the rate levels restrictive, that is undisputed. Whether they are restrictive enough and how long it takes to reach the economy are the questions now.
The fact that the market reacted at all to the idea that rate hikes were unlikely shows how much sentiment has changed since the beginning of the year, when the consensus called for multiple rate cuts and inflation. Expected a steady decline. There were very few forecasts of higher interest rates.
However, recently, investors – particularly in the Treasury world – have had reason to worry about a potentially hawkish stance from the Fed as the US economy remains resilient, job creation is strengthening and inflation is under control. It is proving difficult to control. Bond traders have slashed the outlook for a rate cut from six quarter-point slices in early January to a little more than one.
A selloff in equities and bonds during April pushed two-year Treasury yields back more than 5% and sent the S&P 500 index to its worst monthly loss since October, according to this week’s report from the Federal Open Market Committee. Reflects the tension arising before the meeting. And potentially important data is still on deck: The April jobs report on Friday is expected to show strong jobs growth, while more inflation reports are due in the coming weeks. Central bankers will have to weigh all this.
“The FOMC intends not to let the market stray too far from its base case of solid growth, stable inflation and a rate cut later this year,” Citigroup Inc. strategists led by Stuart Kaiser wrote in a note referring to the policy. ” Establishment of the Federal Open Market Committee. “The result was a large round-trip trading day.”
Powell highlighted the stakes for investors when he said he believed current rate policy “is restrictive, and we believe that over time, it will be restrictive enough,” that “There will be a question that the data will have to answer.”
Even though Powell acknowledged the lack of recent progress toward the Fed’s 2% inflation target this year, his indication that cuts are more likely than hikes was enough to calm the market, at least initially. . Whether this guarantees a continued stock rally is another matter.
What Bloomberg strategists say…
“Powell: Rate cut still on the table before year ends. Takeaway: Rates are tight but Fed will cut if unemployment rate rises much higher from here. Fed’s bias is easy.”
– Edward Harrison, Markets Live Blog contributor
“I was more puzzled trying to figure out what Powell said to cause stocks to jump so sharply,” said Steve Sosnik, chief strategist at Interactive Brokers. “Sure, he said no hike was necessary and played down fears about stagflation, but it wasn’t worth a big speculative rally.”
As for the longevity of the latest bond relief rally, Citadel De Pas warned that although the surge “makes sense”, the market was close to its limits.
“The market has already lost momentum due to yields being so low,” he said. “Given that we are in a data-dependent situation, the market is probably struggling to move a lot. “
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