If markets are right, the policy statement at today’s central bank meeting will announce the next-to-last rate hike of the cycle, a quarter-point move expected to be pegged on March 22. However, Federal Reserve Chairman Jerome Powell may have other ideas. . That’s why the S&P 500 pulled back from a six-week high on Monday, but markets firmed on Tuesday after the employment cost index showed softer wage growth in Q4.
Powell can make a case for why interest rates should go higher after today’s rate hike and stay there longer than investors are betting on. Even so, Wall Street is doubling down on its belief that rate hikes are coming to an end. In fact, the odds of a quarter-point hike in March fell from 98% on Monday to 83% today, according to CME Group. FedWatch page.
Even if markets turn out to be perfect, today’s Fed meeting is about policymakers keeping their options open. Also, Powell has zero interest in feeding the S&P 500, and Treasury yields are moving lower.
What matters is how Powell characterizes the balance of risks. The S&P 500 could rise if he says the balance is now between higher-than-expected inflation and lower inflation amid a weakening economy. But he’s not ready to go there yet, and will continue to say inflation risks are to the upside.
A clear S&P 500 rally signal would come if the policy statement’s language that the policy committee expects “ongoing increases” in the central bank’s key interest rate. Most expect the language to remain the same.
Fed Meeting Minutes Fire Warning Shot
Minutes from the central bank’s mid-December meeting highlighted policymakers’ concerns about “undue easing of fiscal conditions.” The minutes said rallying financial markets would “complicate the committee’s efforts to restore price stability”.
That concern may have been on the minds of policymakers heading into this week’s central bank meeting. That’s because the Chicago Fed’s gauge of national financial conditions through Jan. 20 showed they were the easiest at any time since rate hikes began last March.
However, Powell’s 2:30 p.m. news conference after the Fed meeting will not be the last word on the rate hike outlook. Arguably, labor market data coming out this week will have more impact on markets than Powell.
Jobs, salary details are important
On Tuesday morning, the Labor Department’s employment cost index showed that compensation costs rose 1% in Q4. Expected 1.1%. However, compensation rose 5.1% from a year ago, a slight uptick from the 5% growth in Q3.
Economists focus closely on wage growth for private-sector workers, excluding wage-earning industries, as a good indicator of underlying wage growth. In Q4, wages in this segment increased by 0.9%, or a 3.6% annualized pace. That measure excludes industries where wages are driven by commissions, which can be more affected by cyclical highs and lows.
The ECI report has raised the central bank’s emphasis on the need for lower wage growth to return inflation to the 2% target. Powell has said that reducing wage growth to 3.5% is sufficient.
With both consumer spending and manufacturing showing signs of weakness, Friday’s January jobs report will provide further evidence of whether the economy’s last major source of strength is giving way. Analysts had expected a firm gain of 185,000 jobs, but average hourly wage growth to slow to 4.4% from 4.6% in December.
S&P 500 set-up
In stock market action on Tuesday, the S&P 500 rose 1.5% after the ECI report. By Monday’s close, the S&P 500 had rallied 14% from its Oct. 12 bear-market close low, but was still 15% off its all-time high.
The S&P 500 crested 4094 on Friday, making its third run to clear 4100 since early December. That is the main point to watch now. On Tuesday, the S&P 500 closed at 4076.60, the highest of the day.
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