Only two weeks ago Fed Chair Powell said “the FOMC are not thinking about rate cuts”. And it was premature to conclude with confidence they are at a sufficiently restrictive level. Well forget all that. Powell performed one of the more remarkable pivots ever seen from the Fed. He pivoted 180 degrees from his sentiment barely 14 days ago. Powell is now talking three rate cuts next year and the Fed have essentially “won the battle” over inflation. My take is the Fed is now more concerned about the business cycle; i.e., recession. There is a reason the Fed will cut – and that is the risk of dislocation in the economy (i.e., recession)
"S&P500"
A Rational Response or Pavlov’s Dog?
Market consensus is for a soft-landing with at least three rate cuts next year. The market does not expect a recession.This may prove correct (I don’t pretend to know) – but there are some chinks in the armor. Readers will know I don’t subscribe to a soft-landing. Typically in the lead up to a recession – spectators will generally lean towards it being “soft”. Few ever forecast ‘hard landings’. For example, if you have unemployment below 4% and positive GDP growth – it’s hard to see anything else. But very rarely do things land softly. We’ve seen one over the past five decades. That’s not a high ratio. What’s more, soft landings are exceptionally rare after 550 basis points of rate hikes (not to mention over $1 Trillion in quantitative tightening – of which we have no parallel).
People Choose What They Want to Hear
Markets continue their ascent after a blistering November. The Dow and S&P 500 each gained ~9% for the month – in what is typically a seasonally strong time of year. From a year-to-date perspective, the Dow is up 8.5%, the S&P 500 is up ~19% and the Nasdaq up over 35%. The anomaly? 493 of the 500 stocks on the S&P 500 are barely positive for the year (i.e., the equal weighted index). So what’s driving the optimism? Simple: the expectation of lower yields and the Fed hitting its terminal rate. This post looks at potential blind spots for the market.
Cautious… But Invested
It’s a brave person who is short the market. Probabilities suggest we are headed higher in the near-term. For example, previous episodes of Fed pausing suggests stocks typically gain. My sentiment today is best described as ‘cautious… but invested’. To that end, one should always be invested to some extent. And whilst it’s always unwise to be completely remiss of the risks — it would be an even greater mistake not to have some exposure to higher quality risk assets and fixed income (at current yields)
For a full list of posts from 2017…