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There’s no sign of the Fed switching off the auto-pilot button as it emerges from today’s meeting.
Rates remained unchanged at basically zero, and the Fed remains accommodative with no plans to stop its $120 billion in monthly bond purchases anytime soon. In general, this Federal Open Market Committee (FOMC) meeting was kind of a placeholder for the Fed, and also didn’t bring any updates in its economic forecast.
Rising prices “largely reflect transitory factors,” the Fed said. Sounds familiar. The Fed sees improvement in the economy coming out of the pandemic, but says we’re not all the way back yet, especially in the sectors that suffered most. Also very much in line with its previous statements.
Treasury yields were relatively flat and major stock indices were mixed before the Fed announcement and stayed that way immediately afterward. However, sometimes the market can move when Fed Chairman Jerome Powell speaks, so his press conference today might have an impact. Major indices did seem to move higher as he spoke, perhaps reacting to the fact that he didn’t say anything that sounded too hawkish.
Speaking in a press conference right after the meeting, Powell shared some views on the economy, saying the housing market and business investment remain strong and conditions in the labor market continue to improve. Supply constraints in the auto industry are “particularly acute,” he added.
“Supply bottlenecks have been stronger than anticipated,” Powell said. “But as they abate,” he expects inflation to drop toward the Fed’s long-term goal. The “base effects” of comparing prices now to very low prices a year ago during the crisis, as well as the effect from high energy prices, are both receding, he said.
The Fed wants to keep long-term inflation expectations near its 2% goal, Powell said. If the Fed saw that starting to rise, that would potentially be one thing that could affect its policy stance.
Powell still sees challenges in the labor market. “The 5.9% unemployment rate actually understates unemployment,” due to low job market participation, he said. This could reflect trouble people are having finding caretakers, along with fears of the virus. “These should ease in coming months, leading to strong employment growth,” Powell said.
One interesting note in the press conference was Powell making a pretty definitive statement about the price environment.
“We won’t have an extended period of high inflation,” Powell said. “Some will fall away as the process of reopening the economy moves through over time.”
He said the near-term inflation risk is “to the upside” but has confidence that will be less of the case in the medium term.
Stuck In The Middle Again
Approaching the Fed meeting, it really felt like Powell and company were between a proverbial rock and a hard place.
On the one hand, the inflation numbers keep going up and the heat index on the economy remains high. Analysts expect Q2 gross domestic product—due Thursday—to show better than 8% growth, according to a consensus from research firm Briefing.com. Earnings growth so far this quarter is through the roof, with FactSet predicting it to rise more than 70% year over year. June saw more than 800,000 jobs created, the U.S. government reported, and retail sales are sizzling.
All those are possible signs of a surging economy that may need some Fed cooling. On the other hand, unemployment remains stubbornly high, most analysts expect economic and earnings growth to slow substantially in 2022, and the housing market is showing signs of heat exhaustion. The stock market had a big hiccup earlier this month when it suddenly seemed to notice the rise in cases of the Delta variant of Covid spreading around the country.
Because things seem so even-steven, the Fed’s so far kept its transmission in neutral, declining to take any steps to curb the virtually zero-level interest rates or $120 billion a month in bond buying it began at the start of the pandemic.
There was a bit of a window in June, at the Fed’s last meeting when it appeared there might be a slight chance of the Fed hitting the brake pedal. Back then, Powell said it’s fair to say the Fed is “thinking about thinking about” tapering its stimulus. But that was more than 40 days ago at a time when Covid cases were approaching a post-pandemic low and inflation metrics were sharply higher several months in a row. The market suffered a slight hiccup after that meeting, which may be instructive as this week continues if the Fed seems to lean at all hawkish.
Approaching the meeting today, most analysts on Wall Street were thinking the Fed might announce terms and timing of a taper perhaps at its Jackson Hole conference late next month or at its regular meeting in late September. That’s where we are now: The big news isn’t any specific Fed action, but instead looking for hints of when the Fed might announce the timing of future action. Powell’s press conference didn’t really give much more color on the timing.
As the Fed remains accommodative, the bond market shows no real signs of pushing the Fed into any anti-inflationary action. Though the 10-year Treasury yield has bounced back from six-month lows posted last week, its current level near 1.26% is historically low and down 50 basis points from highs earlier this year. In part, this may reflect investors piling into U.S. fixed income markets because they offer better yield than overseas’ fixed income instruments.
It also could be read as a sign of investors generally believing the Fed when it says inflation will ease. The next inflation update comes Friday with Personal Consumption Expenditure (PCE) prices for June.
Something else investors might have been looking for from Powell today is any sign that he’s worried about a slowing economy due to the Delta variant of Covid. That’s the kind of dovish stuff that might lift stocks, with bad news basically becoming “good news,” at least in the sense that there’d be less fear of the Fed getting ready to tighten things. Powell noted the pace of vaccinations has slowed and thinks a faster pace would get the economy back to normal more quickly.
CHART OF THE DAY: SMALL BOUNCE IN YIELDS. After hitting a low last week, which took the 10-year Treasury yield (TNX—candlestick) pretty close to its 50% Fibonacci retracement level (yellow horizontal line), TNX has bounced back a bit. It didn’t move much after the Fed’s decision to keep rates unchanged. Data source: Cboe Global Markets. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.
Claim Jumping: Tomorrow morning’s initial unemployment claims may get more attention than usual following the Fed’s meeting and the previous data point that came in way above expectations. Consensus on Wall Street is for initial claims to total 375,000, according to research firm Briefing.com. That would be down from a surprising jump to 419,000 last time, which was the highest reading since mid-May and way above expectations. So the question going into tomorrow is whether that swollen number was a one-timer or something more pernicious.
Judging from the average estimate of 375,000 going into Thursday’s data, it looks like Wall Street analysts don’t think a new upward trend has started. The thing to consider, whatever tomorrow’s number might be, is to keep an eye on the four-week average, which tends to smooth out any bumps and bruises. It was 385,000 last week, which is still way above levels typically seen before the pandemic. As much as claims have fallen over the course of the year, it doesn’t feel like we’re getting back to the below-300,000 a week average seen for years going into Covid.
Strength In “Cyclicals” Leads Earnings Growth: You may be hearing how strong earnings season has been as we approach the halfway point, but it’s also interesting to see where the strength is concentrated. So far, it’s so-called “cyclical” sectors at the head of the class. A reminder that cyclical sectors are ones like Industrials, Materials, and Energy that tend to do better during times of rebounding economic growth. Industrials are holding up their end of the bargain, with companies in that sector reporting an off-the-charts average earnings growth of more than 600% from a year ago, according to Refinitiv data. Energy earnings are up 225% through Monday, and Materials are up 126%.
Another strong category is Consumer Discretionary, up nearly 300% year-over-year. Some of this might reflect relatively easy comparisons to a year-ago period when earnings cratered during the pandemic lockdowns. That’s one reason why many analysts think Q2 could represent the peak of post-pandemic earnings growth. That’s not to say earnings can’t keep growing, but just at a slower pace. Analysts see Q3 earnings growing 27.6%, still a very high level but down sharply from the anticipated 78.4% growth in Q2, according to Refinitiv.
Inflation Thoughts: One thing to keep in mind with the current high inflation, by the way, is that inflation trended well below the Fed’s 2% target for many years before the current pricing pressures began.
Also, the Fed has said it’s willing to let inflation run high for a while to not risk squeezing the economy as it emerges from the Covid recession. In one sense, everyone is getting excited about a few months of high inflation, but you’ve got to take into account the years of abnormally low inflation that preceded this. On average, inflation remains low overall during the last half a decade or so.
TD Ameritrade® commentary for educational purposes only. Member SIPC.
Image by Jason Goh from Pixabay
The preceding post was written and/or published as a collaboration between Benzinga’s in-house sponsored content team and a financial partner of Benzinga. Although the piece is not and should not be construed as editorial content, the sponsored content team works to ensure that any and all information contained within is true and accurate to the best of their knowledge and research. This content is for informational purposes only and not intended to be investing advice.
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