Did The Fed Just Signal A Pivot?
“I have got a baseline view where for me I think a pause in September might make sense” - FOMC Member Bostic
Many participants judged that expediting the removal of policy accommodation would leave the Committee well positioned later this year to assess the effects of policy firming and the extent to which economic developments warranted policy adjustments. - FOMC Minutes, 25th May
In plain English: We want to hike rates as fast as possible so that come the end of the year when the economy is in the gutter we can pivot and start the printer again…
Fed Minutes
On Wednesday we got the FOMC minutes from the fed meeting earlier this month. The difference between May and March was we didn’t get any projections or forecasts on GDP and inflation, but that doesn't mean that the Fed did not discuss and revise its economic and inflation forecasts internally.
From an inflation perspective the minutes concluded that…
"Inflation was expected to be 4.3% in 2022. Inflation was then expected to step down to 2.5% in 2023 and to 2.1% in 2024 as supply–demand imbalances in the economy were reduced by slowing aggregate demand and an anticipated easing of supply constraints."
Bloomberg’s Vincent Cignarella summed it up well by saying…
"If their forecast is accurate, it would imply the next expected three half-point rate hikes would be the end of the current tightening cycle and set the stage for a major risk rally into second half of 2022."
This also aligns with JP Morgan's own estimates when the Fed will likely pause and/or pivot. JPM's Andrew Tyler wrote,
"While financial conditions are already at the level in which we saw the Fed pivot in 2018/19; I think it is unlikely we see the Fed pivot at this stage in the tightening cycle. After all, Powell said that he and the Fed need to see material evidence of slowing inflation. So, with "the September Fed meeting one where we could see a pivot, that essentially leaves 3 more CPI prints to prove the case"
This also lines up with comments from FOMC members Bostic and Bullard who are both starting to lean slightly dovish…
“I have got a baseline view where for me I think a pause in September might make sense” - Bostic
“The more we can front-load and the more we can get inflation and inflation expectations under control, the better off we will be. In 2023 and 2024 we could be lowering the policy rate because we got inflation under control.” - Bullard
Now let’s not forget we still have another 1% increase in the fed funds rate coming and QT beginning in June, so there is still a lot of tightening to be done in this market. However, investors are starting to latch onto this narrative that the fed could back off in September and that’s being echoed across global markets…
DXY is finally cooling off, currently down 3.40% from its highs. We’re still in a strong uptrend in the Dollar and i’d expect it to bounce from around 100.000.
US02Y yields which are more closely correlated to short term interest rates have broken structure on the daily timeframe. I expect this to trade down to 2.27% at least.
US10Y yields have backed off their highs too and hit my first target of 2.70% which I mentioned last week.
Eurodollar futures i.e the implied fed funds rate come December 2022 briefly dipped below 3% this week and I expect this to continue coming lower.
Global equity funds have seen the biggest inflow in 10 weeks and this has helped the Nasdaq bounce out of weekly demand. We’re currently looking to break the protected high of 12593, but remember we are still in a strong weekly downtrend, so assuming this is a bear market rally we can look to reduce exposure and look for shorts between 13000-13500.
The correlation between equities and yields I spoke about last week has briefly broken down over the last few days, but over the short-medium term I believe this will come back in line.
Bitcoin has bucked the trend of equities this week (the decoupling? lol) and continued to trade in its sloppy range. As I mentioned above, assuming we are in a bear market rally we can look for longs on BTC at around $27,500.
I’m of the opinion that this is a classic bear market rally and we should look for short term longs on crypto and equities while being mindful of limited upside. The fact that we’re starting to get data coming through to support the argument that the economy is slowing, in addition to further tightening via QT and rates tells me there is still pain in this market to come.
However, September does feel like the next big event of the year. Should we get that pause from the Fed we could see a sustained rally in risk assets into the end of the year which would give many investors a bit of relief after what’s been a horrendous 2022.
One of my favourite economists Mohammed El Erian has a differing opinion on this…
“Be careful, because the only reason the fed will pause is because demand has come down really fast and that’s not going to be good for risk assets.”
I agree with him to an extent…
A pause from the Fed isn’t a pivot. However, I feel like the fed has been the playground bully to risk assets this year and them backing off a little and allowing financial conditions to loosen a touch would be welcomed with open arms by risk assets.
There’s an old market saying from the 1980s/90s…
“Buy bonds, wear diamonds”
Now, of course, this was back when a 60/40 portfolio was the holy grail and being a bond trader was incredibly lucrative. However, in the current environment with inflation expectations coming down, interest rates potentially peaking, and economic growth in decline, bonds are the safe haven.
Have a great weekend all!
Any questions hit me up at macroiqglobal@gmail.com
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