Fed’s balanced tone matches its symmetrical target

Thought of the day

by Chief Investment Office 03 May 2018

Stocks fell and the dollar rallied in choppy trading after investors interpreted the latest Federal Reserve policy statement as incrementally more hawkish. The S&P 500 fell 0.7%, and the dollar index briefly hit a new high for the year, after the Fed signaled increased confidence in the inflation outlook.

But in our view, the Fed struck a balanced tone, and there was little in the statement that should unsettle equity markets:

  • The statement noted that inflation is now close to target and is expected to “run near” the Fed’s “symmetric 2% objective” over the next 12 months. Once again, the Fed is both preparing the market for the possibility of a modest inflation overshoot while reassuring it, with its symmetry reference, that this won’t prompt faster rate hikes.
  • Language noting the need for continued close monitoring of inflation developments was dropped. This was seen as moderately hawkish, since it had been introduced when the risk was for inflation to undershoot the target. But inflation has merely moved toward the Fed’s target in an expected fashion and is likely to remain close to it.
  • The previous statement noted that market-based measures of inflation compensation “have increased in recent months,” which has now been changed to “remain low.”

Overall, the Fed’s greater confidence in the inflation outlook is likely to push its median projection from the current three 25-basis point hikes this year to four at next month’s meeting. This would align Fed projections with our own forecasts, and we still believe this pace of rate increases should not prevent stocks from grinding higher. We remain overweight global equities.

Do you like this?

Please click below to sign up for more investment views.