Group Co.
RETAIL REPORT: The Fed and Equities
Traders Magazine Online News, October 29, 2018
With all the talk of an extended interest rate increase program, what is a trader, institutional or retail, to do?
Bricklin Dwyer, Senior US Economist and Greg Boutle, Senior Equity Derivatives Strategist shared with Traders Magazine their thoughts from the most recently published “Flash on The Fed & Equities” research note.
Below are some of the highlights.
• Wobbles in financial markets are likely to lead the Fed to reconsider broader financial conditions.
• A 10-15% drop in equities is usually the difference between noise and signal, though previous examples tell us it matters what the rest of the economy and financial markets are doing.
• Financial conditions remain “easy” and the economy is on solid footing. We think the Fed will continue its gradual pace of rate hikes, for now.
Equity scare: When should we be worried?
• US equities took another leg down on Tuesday as concerns about the impact from the trade dispute with China hit corporate forward guidance and banks’ earnings disappointed.
Uncertainty about mid-term elections looms, while there was more discussion in markets about the Fed hiking too much.
• The risk-off move in markets sparked concerns about the risks of an earlier economic slowdown and fewer rate hikes.
• Equities remain up on the year, corporate spreads are relatively compressed, fed funds is below neutral, and there remains ample liquidity.
The real effective exchange rate, however, has moved just above neutral. All told, broader financial conditions remain accommodative.
Test cases: How has the Fed responded?
• A pause: The S&P500 declined by 12% over the first two months of 2016 as fears of a China hard landing mounted and the US growth outlook soured. The Fed paused in March 2016 and changed their forecast from four hikes in 2016 to just two.
• Didn’t blink: An XIV scare in late January of this year drove the S&P500 down by just over 10%. This time around, the FOMC's gradual pace of rate hikes went undeterred as the economic outlook remained promising with the positive impact from expansionary fiscal policy still in the pipeline.
What’s next? Watch overall financial conditions
• In light of recent market moves, the Fed is likely to reassess broader financial conditions. In our view, if financial conditions move closer to neutral (ie, S&P near 2500), the Fed could pause its rate hike plans.
• Facing a headwind from trade policy and in the midst of a fading fiscal tailwind, we think the Fed will likely be nimble in its approach to policy, accounting for changes in economic and financial conditions.
For more information on related topics, visit the following channels:
Comments (0)