The Fed's meeting supports their preference for high-quality bonds, which CIO expects to benefit as growth slows and attention shifts to the timing and pace of rate cuts. (UBS)
Equity markets also focused on the more dovish aspects of the meeting, with the S&P 500 climbing 1.1%—marking the strongest three-day rally since March.
The Fed was careful not rule out further hikes, with Powell saying strong growth and tight labor markets meant that policymakers were “not confident yet” they had achieved a “sufficiently restrictive stance.” But overall, there was a more balanced tone to the meeting. The Fed's statement observed that “tighter financial conditions” would weigh on the economy—reinforcing recent remarks from top officials that higher government bond yields could reduce the need for additional rate increases. Powell added that above-trend economic growth did not necessarily mean further hikes were required. That was reassuring following the recent release of data showing the US economy grew by an annualized 4.9% in the third quarter—the fastest rate in almost two years.
The meeting underlines our view that the Fed is likely done tightening and that markets had become too aggressive in pricing higher rates for longer. But a degree of uncertainty will remain, with inflation still above the Fed's 2% target and the labor market remaining strong.
Powell stressed the Fed is not yet ready to declare victory on inflation. In his post-meeting press conference, Powell made it clear that the process has a “long way to go” to get inflation sustainably down to 2%, and “the Committee is proceeding carefully.” Additionally, he noted the Committee will continue to decide, meeting to meeting, the “extent of additional policy firming and how long policy will remain restrictive based on the totality of incoming data, the evolving outlook, and the balance of risks.”
Policymakers remain data-dependent. Powell acknowledged that inflationary pressures were moderating as supply chain disruptions had cleared. He also pointed to signs that wage growth appeared to be slowing, and highlighted the positive role of increased labor force participation and immigration. However, he added that “likely we will need to see some slower growth and softening in the labor market conditions.”
US economic data continue to paint a mixed picture—with pockets of excessive strength. Recent data underlined the weakness of the manufacturing sector, with the ISM survey for October falling to 46.7—the weakest reading since July after three months of improving activity. The reading has now been below the 50 level denoting contraction since last October. Higher borrowing costs have also been slowing activity in the housing market.
Other releases, however, point to continued strength. The JOLTs job openings report suggested the US labor market remains tight, with 1.5 job openings for every unemployed worker in the US. Vacancies rose 56,000 to 9.6 million, more than expected. The next major focus will be Friday's payroll data for October, which is expected to show a solid employment gain of 180,000, while unemployment is set to remain close to a multi-decade low at 3.8%.
So, the Fed's meeting supports our preference for high-quality bonds, which we expect to benefit as growth slows and attention shifts to the timing and pace of rate cuts. Our base case is for the 10-year US yield to fall to 3.5%by June 2024, from 4.71% at present. The improving outlook for a softish landing for the US economy should also provide a positive backdrop for equities over the coming 6 to 12 months. Nevertheless, uncertainty over the path of monetary policy looks likely to remain a concern for investors in the near term, and we are neutral on stocks over our tactical horizon.
Main contributors - Solita Marcelli, Mark Haefele, Jennifer Stahmer, Brian Rose, Vincent Heaney, Christopher Swann
Read the original report : Stocks and bonds rally on more balanced tone from Fed, 2 November 2023.
