Market Experts Predict Further Volatility As Fed Rate Hikes Leave ‘Little Room’ For Soft Landing

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Following hawkish commentary last Friday from Federal Reserve chair Jerome Powell—who said that it would take “some time” to bring down inflation with ongoing interest rate hikes—experts warn that there is still a long way to go before a reversal in monetary policy, meaning more volatility for the stock market in coming months.

Key Facts

Despite an impressive rally since the market’s low point in mid-June, stocks are now looking to avoid a third negative week in a row as investors worry about a more prolonged period of interest rate hikes and tighter monetary policy from the Federal Reserve.

“Momentum has clearly slowed” as Powell’s “convincing reminder” the central bank still has far more work to do was evidence investors were too “complacent” about the direction of Fed policy, says Mark Hackett, Nationwide’s chief of investment research.

Powell made clear “there won’t be a Fed pivot anytime soon,” agrees Oanda senior market analyst Edward Moya, who predicts “further equity weakness” amid rising “doubts for anyone who bought stocks earlier this month.”

The central bank is now adjusting its stance to “purposefully” raising rates “higher for longer” after “expeditious” hikes earlier this year, adding to the likelihood of a recession later this year, according to a note from Nomura senior U.S. economist Rob Dent.

“Ongoing inflation has the Fed committed to a path that leaves little room for a soft landing,” Martin Wurm, senior economist at Moody’s Analytics, similarly agrees.

Experts also widely predict investors should expect heightened volatility, with a rising risk that stocks could retest their mid-June lows again later in 2022 amid “choppy” market conditions, according to a note from RBC’s head of U.S. strategy, Lori Calvasina.

What To Watch For:

Market expectations are now widely pointing to another 75 basis point rate hike at the Fed’s next policy meeting in September. Roughly 75% of traders are now pricing in what would be a third consecutive increase of 75 basis points, rather than a smaller 50 basis point hike, according to CME Group data. Powell’s speech “not only shifted the consensus bet for the September meeting to 0.75%, but it also started shifting the curve in 2023, adopting a ‘higher for longer’ shape,” points out Hackett.

Key Background:

Fed officials are likely to pay close attention to historical data, especially the period of high-inflation during the 1970s and 1980s, according to Nomura’s Dent. Previous periods of monetary tightening suggest that the central bank will not “ease their restrictive stance prematurely” until there is a meaningful decline in inflation back to normalized levels, he argues. With futures markets now predicting rate hikes well into 2023, investors should also be mindful of “tighter credit conditions” with the ten-year and two-year Treasury yield spreads remaining inverted since early July, points out Wurm. Yield curve inversions have preceded every recession since 1955, he points out.

Further Reading:

Stock Market Selloff Continues As Investors Worry About Higher Interest Rates (Forbes)

Dow Plunges 1,000 Points After Fed Chair Powell Warns Inflation Requires ‘Restrictive’ Policy For ‘Some Time’ (Forbes)

Dow Falls Over 600 Points As Experts Warn Bear Market Rally Is ‘Grinding To A Halt’ (Forbes)

Bank Of America Warns Of ‘Textbook’ Bear Market Rally, Predicting New Lows For Stocks (Forbes)

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