Following persistent inflation data showing an annual rate of 3.4%, Federal Reserve Chairman Kevin Warsh is expected to deliver a quarter-point rate hike at next week’s policy meeting. Despite initial stock rallies, the market’s trajectory remains uncertain, heavily influenced by future inflation trends, rising oil prices, and escalating global tensions, with experts emphasizing the Fed’s need to uphold its credibility.
The financial markets are bracing for what appears to be an inevitable interest rate hike by Federal Reserve Chairman Kevin Warsh next week. Following the release of the latest inflation data, which did little to allay concerns about persistent pricing pressures, a rate increase at Wednesday's policy meeting is widely anticipated.
Interestingly, this move might align with market expectations. Stocks saw a rally on Friday, directly after the August Consumer Price Index (CPI) report was published. This robust market reaction seems to be a clear message to the Fed chairman, endorsing a quarter-point increase as the appropriate step, especially with the annual inflation rate holding at a significant 3.4%—well above the central bank's desired 2% target.
Chairman Warsh had previously underscored his commitment to tackling inflation during his address at Jackson Hole, Wyoming, just weeks prior. His firm stance aimed to clarify any ambiguity from the July meeting that might have unsettled investors. During the central bank's annual symposium in late August, Warsh stated, "We must be confident that underlying inflation is moving to our objective, clearly and at sufficient speed. Otherwise, we have work to do. That's our job, our mandate and our charge to keep."
John Belton, portfolio manager for Gabelli Growth Fund (GABGX) at Gabelli Funds, commented on the situation, stating, "He has set himself up in such a way where he loses credibility if he doesn't hike in the face of concerning inflation data." The Federal Reserve's credibility remains a critical factor, especially as the institution navigates a highly data-dependent path amidst burgeoning inflationary pressures.
Compounding the inflationary environment, global oil prices, including in the U.S., have soared past $100 per barrel this week. This surge is largely attributed to heightened hostilities between the U.S. and Iran, suggesting the potential for an extended conflict. The rise in crude costs has also contributed to an increase in bond yields, subsequently negatively impacting equity markets.
On Friday, the 10-year Treasury yield briefly approached the 5% mark before receding slightly, yet it continues to hold above 4.9%. For investors, the path forward for stock market performance is intrinsically linked to the evolving inflation narrative.
Optimistic investors are holding out hope that any forthcoming inflation data showing improvement, or news of de-escalation in Middle East tensions, could alleviate the current market pressures and trigger a significant rebound in equities. However, the alternative scenario—stubbornly high inflation—could force the Fed into additional rate hikes, potentially impeding further stock market gains.
According to the CME FedWatch Tool, fed funds futures currently indicate a nearly 50% probability that rates will fall within the 4% to 4.25% range by the December meeting. This projection suggests the market is pricing in two additional quarter-point hikes from the current target rate of 3.5% to 3.75%.
Belton from Gabelli Funds noted that stocks might still perform well even under such conditions, particularly within the artificial intelligence sector, where valuations are still reasonable and fundamentals robust. Nevertheless, he also acknowledged a potential scenario where the Fed implements a series of hikes over the next six to nine months, leading to a "meaningfully higher" overnight lending rate.
For Belton, the critical factor in upcoming Fed meetings is the central bank's unwavering resolve to combat inflation should it continue its upward trajectory. He emphasized, "More important than a hike or hold, is the Fed establishing that credibility."
The Week Ahead: Key Economic Calendar (All times ET)
- Monday, Sept. 14: No major data releases.
- Tuesday, Sept. 15:
- 8:15 a.m. ADP Weekly Employment change (08/29)
- 8:30 a.m. Empire State Index (September)
- Wednesday, Sept. 16:
- 8:30 a.m. Export Price Index (August)
- 8:30 a.m. Import Price Index (August)
- 8:30 a.m. Retail Sales (August)
- 10:00 a.m. Business Inventories (July)
- 10:00 a.m. NAHB Housing Market Index (September)
- 2:00 p.m. FOMC Meeting with Economic Projections
- 2:00 p.m. Fed Funds Target Upper Bound
- Earnings: Lennar
- Thursday, Sept. 17:
- 8:30 a.m. Housing Starts (August)
- 8:30 a.m. Initial Claims (09/12)
- 8:30 a.m. Philadelphia Fed Index (September)
- 10:00 a.m. Pending Home Sales (August)
- Friday, Sept. 18:
- 9:15 a.m. Capacity Utilization (August)
- 9:15 a.m. Industrial Production (August)
- 10:00 a.m. Leading Indicators (August)
