Financial markets are bracing for Friday’s widely-anticipated Jackson Hole speech by Federal Reserve Jerome Powell and are expecting he’ll signal the continued need for aggressive interest rate hikes to combat inflation despite the risks to economic growth.
That’s the general takeaway from analysts, economists and investors in the run-up to Powell’s remarks, a day after ex-dove-turned-hawk Neel Kashkari of the Minneapolis Fed said the central bank needs to push ahead with tightening monetary policy until inflation clearly moves down.
Though U.S. stocks
moved higher Wednesday afternoon, they struggled for momentum following Tuesday’s remarks by Kashkari. Equities have pulled back from their summer rally over the past week as Fed officials reiterated their commitment to bring inflation down toward 2%, even with signs the economy is slowing and despite a downside surprise in July’s U.S. consumer-price index.
Treasury yields have also risen in anticipation of aggressive Fed action next month, and fed funds futures traders were back to pricing in a more-than-50% likelihood of a 75 basis point hike in September. Such a move would be the third straight rate hike of that size by the Fed, and the fifth increase overall since the central bank’s rate-hike campaign began in March.
“The market is looking for a very hawkish tone from the Chair,” said Deutsche Bank’s Tim Wessel, Jim Reid and Henry Allen.
Hopes that the Fed might ease off on its aggressive rate hikes had resurfaced on Tuesday, after a round of disappointing U.S. data that included a plunge in new home sales for July. But those hopes are starting to fade, even though well known analysts like Goldman Sachs economist Jan Hatzius still see a chance that Powell will lay out a case for slowing down the pace of rate increases. JPMorgan Chase & Co.’s Phil Camporeale also questioned why Powell would need to be overly hawkish this week.
Here is rundown of views:
“The case that a hawkish shock is to come is that the Chair most frequently has to speak publicly on behalf of the [policy-setting Federal Open Market] Committee, and this is his opportunity to slant his remarks towards his own personal bias,” Deutsche Bank’s Wessel, Reid and Allen wrote in a note Wednesday. Powell “may well personally weigh the balance of risks toward worse inflation outcomes, but let’s see if his lean is strong enough to satiate the market’s appetite.”
Gearing up and hedging
Kashkari of the Minneapolis Fed “is upping the ante on inflation hawkishness”, a sign that Fed communications are “intended to prevent easier financial conditions from prematurely undoing the Fed’s work,” said Ben Emons, managing director of global macro strategy at Medley Global Advisors in New York.
“The 100-day moving average of the S&P 500 is at 4090, the potential next support zone,” Emons wrote in a note. “The call and put options with 4090 strike that expire on 8/31 are now priced at almost equal volatility. It is reflective of a market gearing up with puts for an uber hawkish speech while hedging with calls for a dovish tilt.”
‘Danger’ with half-point hike
“Powell’s performance will convince the audience that the Fed is serious about inflation within the context of the dual mandate,” said economist Derek Tang of Monetary Policy Analytics in Washington.
“We still think September will be 75 instead of 50,” followed by a downshift to 25 basis points starting in November, Tang wrote in a note.” The “danger” with a 50-basis-point hike in September “is that it cuts off the right tail of 2022 outcomes too soon, when the FOMC is trying to convince the market of both a higher terminal rate and a later easing cycle.”
Hiking cycle isn’t over
“It’s safe to assume one of Powell’s objectives will be to communicate that there remains work to be done to combat inflation and the hiking cycle isn’t nearing its end,” said BMO Capital Markets strategists Ian Lyngen and Ben Jeffery.
“In keeping with this theme, Kashkari’s comment that it is ‘very clear’ the Fed needs to tighten monetary policy certainly resonates and we expect this is just the beginning of a series of such official headlines — most of which will occur as the trading week comes to an end,” they wrote in a note.
Not so fast
“I think he will lay out a case, as he did in his last press conference, for slowing the pace of increases,” said Hatzius of Goldman Sachs.
“We had two 75-basis-point moves. Our expectation would be, barring significant data surprises, that the September move is 50,” Hatzius told Bloomberg Television’s Surveillance on Tuesday. “I don’t think he will be specific about the number, but I do think he will be saying there is a risk of over-tightening, and therefore it makes sense to go a little bit more slowly than the outsized increases.”
Sticking with hawkish rhetoric
“Markets have been selling off in anticipation of Chair Powell’s opening address at the Jackson Hole conference on Friday. The thought is that he will strongly reiterate the Fed’s commitment to bringing down inflation, and perhaps indicate that outsized rate hikes will continue for the next couple meetings,” said Tom Graff, head of investments at Baltimore-based Facet Wealth. “This view has been the main driver of the stock sell-off as well as the jump in interest rates the last few days.”
“It is incredibly important that the Fed reestablish [its] price-stability reputation,” Graff wrote in an email. “So as a result, he is going to deliver the same message he did at the July FOMC, even if they are starting to consider the possibility of a pause early next year. They are going to stick with this hawkish rhetoric until they are 100% sure it is time for a pause.”