Interest Rate Hikes Still Worries Wall Street

Federal Reserve Chair Jerome Powell yesterday indicated that the central bank could lift rates at each of its next two policy meetings, which are scheduled for July 25-26 and September 19-20.

Traders give odds of nearly 82% for a +25 basis-point hike in July but only about 16% odds for another hike in September. In fact, the majority bet is still that rates end the year at 5.25%-5.50%, which would mean only one more quarter-point hike this year.

Economy

A lot of bulls now believe that the economy can withstand that, especially based on recent data that indicates consumers remain resilient and some parts of the economy might even be growing. Bulls also believe that a continuation of “deflation” may help offset downturns in other areas because lower prices would, in theory, allow consumers to continue spending at current levels.

Consumer spending accounts for around two-thirds of gross domestic product so keeping that buoyed is an important piece of the puzzle. However, robust consumer spending has also been partially blamed for the current inflation mess.

Interestingly, Fed Chief Powell yesterday said, “What’s really driving it…is a very strong labor market.” Powell also stressed that the US Fed’s monetary policy hasn’t been restrictive for very long, pointing to ongoing economic and employment growth. For those keeping track, the Fed has lifted rates at every meeting since March 2022 before opting to pause in June. Rates have gone from near-zero to 5.0%-5.25% in that time, the fastest pace of tightening in the Fed’s history. And yet, unemployment is at a still-low 3.7%.

It’s worth noting that other central bankers in attendance at yesterday’s event also indicated that rate hikes were likely to continue, meaning money everywhere is going to cost even more. That is one reason it’s tough for the bears to understand how the stock market is going to be able to maintain these levels, considering that so many companies have become highly dependent on debt to fuel growth.

Bears’ Case

Bears also feel that the Fed is aiming squarely at the labor market, meaning even if inflation continues to trend down, officials may still hold rates high until the job market is in better balance.

Most economists consider a “healthy” unemployment rate to be around 4.5%. Unfortunately, it will take millions of job losses to reach that level.

Today, investors will be digesting the final estimate of Q1 2023 GDP and Pending Home Sales, as well as earnings from McCormick & Co., Nike, and Paychex.