Author: David I. Templeton, CFA, Principal and Portfolio Manager
Last week the Fed released minutes from its most recent meeting and the minutes gave an indication the Fed was near pausing and/or slowing the pace of interest rate increases. The exact phrasing in the minutes that gained the attention of the market is as follows:
"A substantial majority of participants judged that a slowing in the pace of increase would likely soon be appropriate [emphasis added.] A slower pace in these circumstances would better allow the Committee to assess progress toward its goals of maximum employment and price stability. The uncertain lags and magnitudes associated with the effects of monetary policy actions on economic activity and inflation were among the reasons cited regarding why such an assessment was important."
The equity market viewed this news favorably and the S&P 500 Index was nearly flat on Wednesday before the release of the minutes but jumped higher by about 40 basis points upon the release and ended higher by 60 basis points for the day. For the week the S&P 500 Index was up 1.53% and is up 12.2% since the end of the third quarter.
Jerome Powell, the Fed's Chairman, has a speaking engagement at a Brookings Institution event on Wednesday. This speaking engagement will include a Q & A segment and more insight into a potential Fed pivot may come from this speaking engagement. A Fed pivot would be reasonable if inflation pressures are subsiding. There have been a number of reports over the course of the last several weeks suggesting inflation pressures are in fact waning. Albeit a small decline in the annual CPI rate, the U.S. inflation rate in the U.S has turned lower as seen below and Fed rate increases act with a lag.
The importance of a Fed pivot is the fact a change in the Fed's pace of future interest rate increases might have a positive influence on stock prices. As the current inflation level is similar to that of the late 1970's and early 1980's, Fundstrat published a chart showing the S&P 500's price reaction to the Federal Reserve's pivot under the Volcker led Federal Reserve at that time. As the below chart shows, the equity market bottomed before Volcker's rate pivot and erased a year and a half decline in four months. The market then went on to reach new highs subsequent to the pivot.
As a reader of one of our recent twitter posts noted, this potential Fed pivot and the market's reaction is simply bullish evidence as to what could happen. With the market, decisions are based on probabilities, not certainties. In other words, a Fed pivot does not mean the equity market will advance higher as it did under the Volcker pivot, but it is a worthwhile variable for investors to take into consideration in their investment decisions.
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