With the Federal Reserve about to enter its pre-meeting media blackout period, investors will be paying close attention when Chairman Jerome Powell speaks at the Brookings Institution at 1:30 p.m. in New York on Wednesday.
Although two other senior Fed officials are due to deliver public remarks on Wednesday and Thursday, Powell’s speech at Brookings has been widely cited by market analysts as the most important event for markets this week.
Investors have also received a batch of U.S. economic data, including Wednesday’s revised reading on third-quarter gross domestic product. The data showed that the U.S. economy actually accelerated by 2.9% during the third quarter, more than previously believed. Investors also received an update on the state of the labor market, and pending-home sales data. On Thursday, another reading on October inflation is due out. And Friday will feature the monthly jobs data for November.
With so much focus on Powell’s comments, analysts at the Sevens Report shared with clients and reporters a list of key topics to watch out for in Powell’s comments.
What’s the plan for December?
At this point, markets have internalized expectations for a 50 basis point rise in the Fed funds rate in December, the Sevens Report authors said. Practically every Fed official who has spoken since the November meeting has suggested that it’s time to slow the pace of interest rate hikes while the central bank waits to see what impact this dramatic tightening of monetary policy will have on the economy. Minutes from the November meeting also helped to reinforce expectations for a smaller hike.
Because of this, the Sevens Report authors expect that if Powell does offer any guidance about what investors should expect from the Fed in December, it will likely involve “reiterating previous comments that the pace of rate hikes will slow.”
If this happens, stocks could rally. But if they do, it’s possible it could be a “head fake” as investors rush to fade the move, the Sevens Report authors warned.
It’s also possible Powell could surprise markets by hinting that a 75 basis point hike might still be on the table next month. If this happens, expect it to be a “negative for markets,” the Sevens Report team said.
Will Powell signal progress on inflation?
The next reading from the PCE price index is due out Thursday. Stocks have risen modestly in the wake of the October consumer-price index number, with the S&P 500 up nearly 2.5% since markets opened on Nov. 10, the day the data were released.
There’s still plenty of debate around whether the Fed has made meaningful progress on inflation. For example, St. Louis Fed President Jim Bullard told MarketWatch earlier this week that he believes markets are underestimating how much work the Fed must still do to tame the worst bout of inflation in four decades.
The Sevens Report authors expect Powell will acknowledge “some progress” on inflation, with the caveat that it’s “still entirely too high and the Fed remains a long way from its inflation goals.”
If comments like these spark a rally in stocks, the bounce would likely be short-lived for the same reasons a bounce on talk of a 50 basis-point hike in December could quickly fade.
“As we and others have covered, inflation is nowhere near low enough to have Powell be very positive on the topic,” the Sevens Report authors said. On the other hand, it’s possible stocks could slide if Powell says it’s not clear whether peak inflation has actually passed.
The terminal rate
Ever since the Fed started the process of telegraphing the possibility of a 50 basis point rate hike in December, the market’s focus has shifted to where the Fed funds rate will likely peak next year. This peak level is referred to as “the terminal rate” by economists and market analysts, since it represents the highest level that rates will reach this cycle.
According to the Sevens Report team, the last two times Powell spoke about the terminal rate, he said it might need to rise even higher than markets had anticipated.
“Powell knows the market’s expectation for the terminal rate is 5.00%. If he again says expectations are too low, it’ll be a clear signal to markets that terminal rate expectations must go above 5.00%, and that will be a clear negative for stocks and bonds as Powell again dashes any growing hopes for a Fed pivot,” the Sevens Report team said.
The S&P 500 index traded marginally lower on Wednesday morning as investors awaited Powell’s comments at the Brookings Institute. The Fed chair is expected to go on at 1:30 p.m. Eastern.