The Federal Reserve’s looming decision to taper asset purchases has been an obsession on Wall Street for months. Now it’s almost here, but it likely won’t matter for the S&P 500 and broader stock market reaction to this week’s Fed meeting.
After the soft August jobs report, with the payroll gain of 235,000 coming in about a half-million below forecasts, economists shifted their expectation for a taper announcement until the Nov. 2-3 meeting. The ongoing impact of the delta variant and expiration of emergency unemployment benefits are weighing against a taper announcement with the 2 p.m. policy statement.
The key for Wall Street — and the likely reason for a modest S&P 500 relief rally — will be the new batch of quarterly Fed economic projections. One projection matters above all else: Will the Fed signal a rate hike in 2022 or not?
Federal Reserve Economic Projections
The dot-plot from June, tracking each Fed policy committee member’s individual outlook, had 7 of 18 penciling in one quarter-point rate hike in 2022. That means a few more centrists would have to turn hawkish to shift the balance to a 2022 tightening.
“Will the dots show more hikes? We think so, but not in 2022,” wrote Jefferies chief economist Aneta Markowska. “Higher inflation forecasts should have no bearing on the timing of liftoff,” the first hike of the cycle.
The Fed’s favored measure of inflation, the personal consumption expenditure price index, was already on track to exceed its 2% target. Jefferies expects new Fed projections to bump up the 2022 PCE inflation outlook from 2.1% to 2.2%.
The Federal Reserve’s average-inflation targeting framework adopted last year ruled out proactive rate-hikes to stem an inflation overshoot. “So, anyone who switches from no hikes to a hike in 2022 would have to upgrade their labor market forecast, for which we see no justification at this juncture,” Markowska wrote.
However, this could become more of an issue for December’s meeting, since we’ll have three more jobs reports by then.
Meanwhile, policymakers could pencil in an additional rate hike for 2023. The June projections saw 11 of 18 policymakers pencil in at least two 2023 rate hikes, while 8 saw at least three hikes. Also, the projections are expected to include the 2024 rate outlook for the first time, likely showing multiple hikes.
Fed Meeting Stakes Rise As S&P 500 Slides
The S&P 500 had a rocky start to a Fed-focused week amid fear that insolvency at China’s Evergrande real estate group could force a tough restructuring of the country’s property markets. Economists see a potential cut to Chinese GDP growth that’s big enough to have a global impact. Commodities prices could take the worst hit.
With copper prices sliding, Freeport-McMoRan (FCX) was among the biggest S&P 500 losers, tumbling 5.6% to the lowest in almost six months. Construction-equipment giant Caterpillar (CAT), a Dow Jones component. fell 4.5% to a seven-month low.
The overall S&P 500 fell 1.7% in Monday’s stock market action, closing off lows after sinking to late-July levels. The S&P 500 already closed below its 50-day line on Friday.
The Nasdaq took a somewhat bigger hit, falling 2.2% to undercut its 50-day line, but after tumbling more than 3% intraday. The Dow Jones lost 1.8%, hitting a three-month low and heading toward its 200-day line.
The recent selling could produce a measure of relief if the Federal Reserve holds off on tapering and projections continue to show no rate hikes until 2023. Disappointment on either or both fronts, though, could further dampen sentiment.
The 10-year Treasury yield slipped 6 basis points to 1.31% on Monday as global growth concerns weighed.
Be sure to read IBD’s after-the-close The Big Picture column each day to get the latest analysis of the market trend and make sure growth investors have a green light.
No Taper Tantrum
So far the Federal Reserve has handled risk of a 2013-style taper tantrum with impressive dexterity. Despite Fed chair Jerome Powell revealing his support for a 2021 start to tapering at his Aug. 27 press conference, the S&P 500 finished that session at a then-record high.
The Fed is buying $120 billion in assets per month. That includes $80 billion worth of Treasuries and $40 billion in government-backed mortgage securities. The Fed has signaled it will gradually scale down those purchases, eventually ending them at some point in 2022. We may get more details about the plan in the Fed meeting minutes that will be published Oct. 13, if not at Powell’s news conference at 2:30 p.m. on Wednesday.
Please follow Jed Graham on Twitter @IBD_JGraham for coverage of economic policy and financial markets.
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