| Guy Beit-Or, Chief Economist of Psagot Investment House
It seems that no war, disease or inflation can stop the US stock markets from rising these days. Currently, the index has jumped by 6.6% since the rise of the Fed and what is amazing about this figure is that it is the sharpest jump due to the start of a monetary tightening move. The Fed since World War II (so according to Bloomberg).
This may sound strange, but the strong rally in the US stock markets may actually bother Powell and the Fed as over the last few days a number of speculations have arisen to explain the phenomenon we are seeing.
One explanation is that the stock market rally is indeed a serious headache for the Fed as it represents a lack of credibility for investors in the Fed’s ability to control inflation and tighten financial conditions in the economy.
The second explanation says that as long as there is peace in the stock markets, the Fed has a freer hand to raise interest rates sharply in a way that will help them control (and inflation expectations).
Stock markets have received relatively calm dramatic changes in historical terms in government bond markets. Since the Fed’s interest rate decision, bond yields have skyrocketed.
The yield has soared by 41 basis points to a level of 2.27%, the yield has soared by 46 basis points to a level of 2.55%, and the yield has soared by 34 basis points to a level of 2.47% since the last interest rate decision.
Due to this jump, the market has embarked on a very aggressive monetary tightening with an effective interest rate of 2.4% in December compared to 1.8% before the decision.
Did this expectation of aggressive monetary tightening do anything to get started and control expectations?
Since the interest rate decision inflation expectations along the curve have only continued to rise, although looking at the more important index for anchoring inflation expectations, inflation expectations for 5 years in 5 years, have actually started to fall although still at a relatively high level.
Beyond that, stock markets have soared and corporate spreads have fallen sharply – all indications of more expansionary and tightened financial conditions. For the Fed, monetary tightening should be reflected in tightening financial conditions but at least in the US stock and corporate bond markets, this is still not seen.
Therefore, it is very likely that what we will see in the near future are more and more “hawks” on the part of the Fed alongside even more aggressive actions than we have seen so far since as long as economic data holds, and financial conditions are still considered expanding – effectively the Fed is not really cooling The market, which only tells us that they will have to do more.
What we see in the stock markets is also confusing in light of other developments these days – for example, price continues to soar and parts of the American curve have already turned over two very clear signals of an economic slowdown that is already around the corner.
And all this without talking about the ongoing brush-ups between Russia and the West as sanctions only intensify on both sides and the war on the ground continues.
Obviously, we are aware of all the explanations given these days for the stock market rally – before the Fed’s interest rate decision, investor sentiment was very negative and a lot of money “parked” out and now starting to come back, companies’ earnings forecasts only went up in a way that The stock is a good hedge against the risk of inflation, and there are even claims that the market is simply happy with the hawks of the Fed taking the war on inflation seriously.
All in all, beyond the daily or weekly volatility in the stock markets, we need to look at the situation in a broad perspective – the implications of the war are acute for both economic activity and inflation, economic data in the United States and Europe signaled to us even before the war broke out that the world was very late. Economic which means economic slowdown and rising inflationary pressures.
Against the background of all this, the central banks make it clear to us that interest rates will rise sharply and they are working to significantly reduce financial conditions.
This means for the stock markets that the high volatility is expected to continue for a long period of time, there will be positive periods like the last two weeks and there will be other periods as well.
Therefore, we continue to recommend taking extreme care and maintaining defensive positions in portfolios with increased exposure to energy industries and industries that are sensitive to inflation, and especially to inflationary surprises as we will continue to receive such over the coming months.
The author is the chief economist of Psagot Investment House and has no personal interest in the review. This review is not a substitute for investment marketing that takes into account the data and special needs of each person.