Next week Fed Chair Jay Powell will deliver the FOMC’s March statement on monetary policy. Interest rates are not expected to change – however his sentiment might. When we last heard from Powell – he was dovish – igniting a rally in risk assets. However, with inflation heating up and a tight job market – Powell may perform another pivot. Markets expect three rate cuts this year – those expectations might be dialed back to just two.
It’s Not If “Long & Variable Lags” Hit… It’s When
Milton Friedman coined the expression “monetary policy operates with long and variable lags”. In the 1970s – he felt it was up to around two years before those effects are felt. Today it’s believed to be sooner – given open transparency of Fed speak and data tools available. But is it? It’s been two years since the Fed’s first hike and we’re just starting to see labor markets soften and consumer demand weaken. Have the full effects of tighter policy been absorbed? I don’t think so.
Money Supply is Expanding: Fuel for Stocks
When the supply of money expands – it’s typically very good for stocks. For example, the S&P 500 index is said to appreciate at an average annualized pace of 14.02% when liquidity expands. However, when it contracts, that gain was only around 7.0%. Today money supply is once again expanding after one of the largest contractions in recent history. This has the potential to be very good for investors. As they say, it’s always easier swimming with the tide.
Yields Rally on “Strong” Jobs Data
According to the BLS – we saw the strongest employment growth in 12 months alongside the fastest wage growth in 22 months (0.6% MoM). However, we also saw the lowest amount of weekly hours worked since 2010. Given the better than expect jobs gains and acceleration in wages (which remains well above the Fed’s objective) – it seems less likely the Fed can justify rate cuts in March. Probabilities for a cut in 2 months stand at 38%. This was above 70% just a month ago.
For a full list of posts from 2017…