Chair Powell found himself between the devil and the deep blue sea in this week’s Federal Reserve Board meeting. On the one hand, if they raised the Federal Funds rate, they could be throwing fuel on the fire of the already tight financial sector, which the collapse of Silicon Valley Bank, Signature Bank, and Credit Suisse has spooked. On the other hand, if they didn’t raise rates after the hawkish testimony given to Congress and the stronger-than-expected jobs numbers, it could be seen as admitting the banking sector is more of a concern than they are leading on. Without question, it was not an enviable position to be in.
Ultimately, the Fed raised rates another 25 basis points for the ninth increase in a little more than a year, bringing the target rate to 5.00%. In prepared remarks, Chair Powell first and foremost stated, “the U.S. banking system is sound and resilient,” to assure the public that their bank deposits are, in fact, safe. Regarding the rate increase, Powell struck a slightly less aggressive tone than in recent meetings. A critical update to the phrasing changed as they dropped the phrase “ongoing increases in the target range will be appropriate” from the statement and replaced it with “some additional policy firming may be appropriate.” While it doesn’t seem like much, these small changes likely imply that the end of this hiking cycle is closer than at the last meeting.
The banking sector issues have clearly impacted the Fed’s views, which they also made clear in the statement. As can be reasonably deduced, any concern from banks regarding their liquidity can quickly translate to a reduced willingness to make new loans. The Fed highlighted this in prepared remarks stating, “recent developments are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring, and inflation.” Effectively, the Fed is stating the events in the banking sector are having a similar effect to their rate increases. The extent of the impact is unknown, which is why they left the door open for changes in their policy guidance depending on any changes to the economic outlook or new risks that emerge from the financial sector.
Lastly, the Fed also released an updated Summary of Economic Projections (SEP), which, while very similar to the December SEP, had some interesting information. First, they expect GDP to be slightly worse in 2023 with a slightly lower unemployment rate, which is generally contradictory. However, this is a testament to the jobs market, which has continued to show considerable strength. The essential item, however, is the anticipated federal funds rate, which remains at 5.1%. The expected rate implies the Fed will raise rates one more time and then maintain them. This, however, is in stark contrast to financial markets, which are pricing in a 99% chance of at least one rate cut and almost a 90% chance of multiple rate cuts by December 2023. While no one knows what will happen, there is one certainty: either the Fed or the market is wrong.
Economy
- U.S. equity markets were little changed, but not without considerable volatility, for the week ending March 24, with the S&P 500 up +1.4%, the Nasdaq up +1.7%, and the small-cap Russell 2000 up +0.5%. News from the FOMC meeting took center stage as it was a light news week outside of that.
- Americans filing for unemployment benefits fell by 1k from the prior week to 191k on the week ending March 18, compared to expectations of 197k. The result provides evidence of a stubbornly tight labor market, corroborating recent hot payroll figures and the Federal Reserve’s outlook of low unemployment. A tight job market forces employers to raise wages to attract and keep staff, boosting inflationary pressure and adding leeway for the central bank to continue tightening monetary policy.
- Preliminary estimates indicate that the S&P Global U.S. Services PMI increased to 53.8 in March, surpassing market expectations of 50.5. This represents the most rapid growth in output since April 2022, with businesses attributing the upswing to more robust demand conditions and a renewed uptick in new business. Notably, new orders have risen for the first time since September of last year and at the quickest rate since May 2022, with improvements in both domestic and foreign client demand.
- According to preliminary estimates, the S&P Global U.S. Manufacturing PMI rose to 49.1 in March 2023, up from 47.3 in February and surpassing expectations of 47. This reading indicates that the contraction in factory activity has eased, marking the smallest decrease in the past five months. The upswing in production and a milder decline in new orders contributed to this improvement. Additionally, inflationary pressures have subsided due in part to less significant price hikes from suppliers and some moderation in the costs of raw materials.
Stocks
- U.S. equities were in positive territory. Communication Services and Energy were the top performers, while Real Estate and Utilities lagged. Growth stocks led value stocks and large caps beat small caps.
- International equities closed higher for the week. Emerging markets fared better than developed markets.
Bonds
- The 10-year Treasury bond yield decreased 2 basis points to 3.37% during the week.
- Global bond markets were in positive territory this week.
- Corporate bonds led for the week, followed by government bonds and high yield bonds.
