Market momentum is Red. The Federal Reserve will release the minutes from its June meeting. Only healthcare remains the strong sector as investors continue to fret about a recession and energy prices continue to break down. Cash is your friend, and remember to react to the minutes… Don’t try to predict what the market will do at 2:01 pm today.
I said I’d teach you about options today around a strong momentum stock in General Mills (GIS). But today is one of the 12 most important days for the stock market. Today, the Federal Reserve will release the minutes from its June meeting. This market has been driven entirely by Fed policy around inflation for the last six months. And it was caused by Fed policy long before this (13 years) thanks to Quantitative Easing (QE).
As I’ve noted, the Fed has raised interest rates over the last decade. It did so in 2015, coinciding with a steep devaluation in the Yuan that sent the global markets into a tailspin. It also did so in 2018, prompting the worst returns for asset classes since 1900. In December 2018, the S&P 500 declined by nearly 20%. The index was off 6.56% for the year.
The Fed accommodated the markets after those shocks. But this time is different… I mean it. The Fed didn’t have to worry about rising or entrenched inflation in 2015 or 2018. Today, the CPI forecast for June calls for an 8.6% increase year-over-year and a 1% jump month over month. So what is the Fed’s plan moving forward?
I want to stress the importance of Fed meetings and Fed minutes releases in one chart. Since October 2020, FOMC meetings have produced short-term pops of optimism about a recession and a calm hand by Fed Chair Jerome Powell. The man knows how to lull the markets into a dead-cat bounce – evident by market moves on the green arrows. .
But look at the red arrows. Those downturns come after the Fed minutes are released. So this has largely been an opportunity for institutions to dump more stocks into the ongoing selloff.
The Two Questions to Ask
To better understand how the market may react, we have to ask ourselves two simple questions:
- What do we know about the Fed right now?
- And what don’t we know?
It’s easy to cover the “knowns.” We’re aware that consumers are worried about inflation. However, the long-term outlook for inflation in the Consumer Sentiment reading in June was very elevated. Prominent hedge fund manager Bill Ackman warns that we must raise rates as high as 5% in 2023 to get inflation under control.
We also know that the CPI reading for June will be over 8%, and we could see prints of 8% through September. And we still have lagging factors like rent that need to catch up in this index. We know that the Fed is largely united around rate hikes and that only one official called for a 50-point hike in June. So we’ll better assess the dot-plot today regarding how far each official thinks we need to hike in the coming months and when we might cut rates to support the economy on the other side.
Also, we know inflation will impact the global markets thanks to the ongoing war in Ukraine that threatens food and energy supplies. Europe’s main governing body just passed a resolution declaring that natural gas is a green fuel source. That will likely provide a boost to natural gas prices into the winter.
What We Don’t Know
On the other hand, however, we don’t know if the Fed is concerned about other economic problems. Because income growth isn’t keeping up with inflation, rent, and housing, there could be concerns about both rent affordability and cracks in the housing sector.
We don’t know if everyone is united to push rates higher or if they’ll balk and only look for 50-point hikes. This should concern everyone because if we don’t move aggressively on rates and suddenly see a 10% CPI print in August or September, the Fed will have to pull the fire alarm.
We also don’t know why the Fed sold no Treasury bonds in June as part of its Quantitative Tightening program. Last month, it was supposed to cut its balance sheet by $47.5 billion. Instead, it only sold $19.5 billion in mortgage-backed securities and increased other parts of its balance sheet. Who made that decision, and why? My best guess is that there is a liquidity problem for the U.S. dollar abroad and that Russia and China’s non-pricing of commodities in U.S. dollars could hurt the greenback’s stability.
The West is facing challenges right now, particularly the central banks of Europe, which remain engulfed in debt. The Fed has made it a little easier to navigate these challenges, but I don’t think it is as rosy as some people are trying to project. We will react to this market and the Fed’s minutes accordingly. Let’s continue to hold cash for opportunities ahead.