NEW YORK, Aug 24 – Investors are bracing for the Federal Reserve to double down on its pledge to squash inflation and expect Chairman Jerome Powell to deliver a message of aggressive tightening and dash hopes of a rate cut. next year.
Jackson Hole’s pullout comes after investors last week viewed the July meeting minutes as tipping toward caution and giving the green light to put some risk back on the table. Stocks rose and bond yields held steady before the market reconsidered that interpretation.
Since the release of the minutes on August 17, the S&P 500 has fallen about 3.8%, the return on benchmark 10-year notes has risen about 10 basis points (bps) and is back above 3% , and the dollar has gained around 1.7% against the yen, the currency pair most sensitive to rate expectations.
Powell’s speech on Friday could set the tone for the market until next month’s Federal Open Market Committee meeting.
“Caution and fear are the theme of the markets,” said Steven Englander of Standard Chartered in New York. “If Powell says something harsh and you buy emerging market stocks or currencies, you’re going to lose 3% before you can blink. So no one is buying risk in the run up to Jackson Hole.”
In its July meeting minutes, the Fed said it saw “little indication” that inflationary pressures had eased, but acknowledged the risk that it could tighten too much and dampen economic activity.
Fed funds futures see a 51% chance of a 50bp rate hike next month, rising to 3.6% by the end of the year. A week before the minutes, a rise of 75 bps was expected.
A drop in fuel costs kept US consumer prices unchanged in July, reinforcing a subdued inflation scenario, although underlying price pressures remained elevated. Producer prices also fell last month, thanks to lower energy prices.
Powell’s message could be complicated by the release of second-quarter price data for core personal consumption expenditures, an important gauge of inflation for the Fed, due an hour and a half before his speech, starting at 1400 GMT.
MORE SPACIOUS RATE RISES?
Standard Chartered’s Englander believes the Fed will do what it takes to bring inflation down to its 2% target, but won’t make all the hikes at upcoming meetings.
“They might say something like: We’ll go up for as long as we have to, as high as we have to, but we don’t have to do it in the next two or three meetings,” he said.
Before Jackson Hole, speculators’ net long position in the safe-haven dollar rose for the first time in four weeks, according to Reuters calculations and US Commodity Futures Trading Commission data released on Friday.
“The market is panicking as we get closer to Jackson Hole,” Englander said.
To be sure, there are market players who believe there is room for the Fed to reduce its pace of tightening because the US economy is slowing. However, the Fed might not say so in Jackson Hole.
Jeffrey Roach, chief economist at LPL Financial in Charlotte, North Carolina, cited a tightening cycle in the mid-1990s in which the US labor market weakened. The Fed responded by holding rates steady, while keeping an eye on the economy.
“There’s still a chance the Fed will make a soft landing here,” he commented.
However, a soft landing for the US economy is not the base case for Harley Bassman of Simplify Asset Management in Laguna Beach, California, and a recession is certainly on the horizon.
“So you want to buy fire insurance. I’m very bearish on rates. I see reasonable scenarios of rates — whether it’s the 10-year bond or the fed funds rate — going 4% or higher.”