Market Update for the Week of September 26, 2022
The Federal Reserve concluded its September meeting on Wednesday, raising the target for the benchmark federal funds rate by 75 basis points (0.75%), as anticipated. However, the market’s reaction was not one that reflected events unfolding as expected. After being up more than 1% on the day, the S&P 500 (SPX) dropped nearly 120 points in the last hour and a half of trading, finishing down more than 1.5% for the day. So, what happened? Both the economic projections by FOMC committee members and the comments from Chair Powell at the post-meeting press conference reflected continued hawkishness from the Fed and cast doubt on the prospect of a “soft landing”. Below are some of the specifics that stood out.
Fed members raised their median projections for the Fed funds rate at the end of 2022 and 2023. FOMC members’ median projection for the level of the Fed funds rate at the end of 2022 increased to 4.4%, up a full 1% from June’s median projection of 3.4%. The committee’s median projection for the Fed fund’s rate at the end of 2023 also increased to 4.6%, up from 3.8% at the end of June.
The increase in the 2022 projection implies that FOMC members now anticipate more/larger rate hikes before the end of the year. After Wednesday’s meeting, the target rate for the Fed funds rate stands at 3.0 – 3.25%, not far from June’s median projection of 3.4%. The new projection of 4.4% implies that members see about 125 basis points (1.25%) of additional rate hikes before the end of the year – likely one 75 basis point (0.75%) increase and one 50 basis point (0.50%) increase – the prior projection would have implied only one additional 25 basis point (0.25%) increase from the current level.
The increase in the 2023 projection indicates that FOMC members now anticipate a higher terminal rate than they did previously. The fact that the 2023 projection is higher than the 2022 projection also reaffirms that the committee members anticipate no rate cuts next year. This is not a change from the prior fed meeting – in June the median projection for 2023 was also higher – however, some commentators had speculated that the fed would begin lowering rates in 2023; an outcome which the fed futures market had also priced in at various points. At this point, futures positioning indicates that market participants now believe the most likely outcome is that the target for the fed funds rate will stand at 4.0 – 4.25% at the end of 2022 and 2023.
Source: Nasdaq Dorsey Wright
Members lowered their median forecast for GDP growth. FOMC members’ median projection for 2022 GDP declined significantly between June and September, falling from 1.7% to 0.2%. Meanwhile, the median forecast for 2023 growth fell to 1.2% from 1.7% in June. The party line from the Fed has been that the committee believes it can engineer a “soft landing” – bringing down inflation without severely damaging the economy. However, the significant reduction in the median GDP projection suggests that committee members may no longer believe that a soft landing is a likely outcome.
Members increased their median forecast for unemployment. In a similar vein, committee members’ median projection for the unemployment rate also increased. The median projection for 2022 unemployment rose from 3.8% in June to 3.9%. Meanwhile, the median projection for 2023 unemployment rose from 3.9% to 4.4%. Assuming that the size of the labor force stays the same, the change in the 2023 projection indicates that FOMC members now see the U.S. economy losing about 825,000 more jobs than they did in September.
Fed Chair Powell also made some telling comments about the Fed’s view of the labor market in his post-meeting press conference:
“Despite the slowdown in growth, the labor market has remained extremely tight, with the unemployment rate near a 50-year low, job vacancies near historical highs, and wage growth elevated. Job gains have been robust with employment rising by an average of 378,000 jobs per month over the last three months. The labor market continues to be out of balance, with demand for workers substantially exceeding the supply of available workers.”
“You know, we're never going to say that there are too many people working, but the real point is this: Inflation - what we hear from people when we meet with them is that - that they really are suffering from inflation. And if we want to set ourselves up, really, really light the way to another period of a very strong labor market, we have got to get inflation behind us.”
The U.S. economy has recorded two negative quarters of GDP growth, the common definition of a recession in the eyes of many people. Among those who advocate for a more holistic view of the economy and argue that we are not in a recession, one of the common pieces of evidence cited is the strength of the labor market.
The increase in the committee’s projection for unemployment and the comments by Chair Powell indicated that the Fed may no longer believe it can bring down inflation without damaging the labor market. As a result, the market’s estimate of the probability of damage to the labor market and a “real” recession is likely higher today than it was before Wednesday’s Fed meeting.
As we’ve seen play out several times this year, oftentimes the market places a higher value on forward guidance than it does on headline earnings numbers. On Wednesday, the Fed’s headline number was in-line with expectations – a 75 basis point (0.75%) increase to the federal funds rate. However, the forward guidance offered by the members’ economic projections and Powell’s comments were both more hawkish with regard to the path of rate hikes and more pessimistic about the prospects for the U.S. economy.
As the market digests this information, we will continue to monitor our data-driven, unemotional indicators to make any necessary changes to our investment strategies.
The current reading for the Nasdaq Dorsey Wright PR4050 Cash Trigger is: Money Market = 80.99% & U.S. Equity Core = 87.32%. For the PR4050 indicator to trigger and alert us when we should consider moving to cash, Money Market must be 50% or above and U.S. Equity Core must be 40% or below.
Below is the most recent DALI (Dynamic Asset Level Investing) Indicator showing Commodities holding onto first place and Domestic Equities maintaining second place.
Switching to the economy, below is the most recent High Frequency Data Tracker from First Trust Advisors showing the 2019 level, month-over-month (MOM), and week-over-week (WOW) comparisons of economic data.
Source: First Trust Advisors
Quick reminder that you are invited to join us for a presentation on “The Road Ahead: Navigating Inflation, Rising Rates, and Volatility” on Thursday, October 6th. We encourage you to bring family, friends, and coworkers whom you believe would appreciate and benefit from the information provided. Please RSVP to Julie at (253) 944-1047 by September 29th.
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