Fed may stutter-step at end of interest rate hiking cycle for first time since 1990

U.S. financial markets are taking a more cautious approach as they forecast future Federal Reserve interest-rate decisions after Chair Jerome Powell said policymakers will likely need to raise interest rates more than expected in response to recent strong economic data, according to DataTrek Research. 

On Wednesday, the second day of Powell’s semiannual monetary policy testimony before Congress, traders of Fed-funds futures were pricing in an over 76% chance of a half-percentage-point hike in interest rates at the central bank’s March 21-22 policy meeting, according to the CME FedWatch tool.

Traders had seen only a 31% chance of a half-percentage-point hike on Monday, and a 3.3% chance a month ago. Meanwhile, the odds of just a 25-basis-point increase shrank to 24% from 69% on Monday. 

In February, the central bank raised rates by 25 basis points, setting the terminal rate to a range of 4.5% to 4.75%. That marked a step down from the size of previous rate increases which included four consecutive “jumbo” 75-basis-point hikes and one 50-basis-point advance in 2022. 

“The Federal Open Market Committee (FOMC)’s downshifting to a 25 basis point rate increase in January now appears to have been a mistake, and markets are now taking a more cautious approach as they forecast future policy decisions,” wrote Nicholas Colas, co-founder of DataTrek Research, in a Wednesday note. 

“Since 1990 the Fed has never stutter-stepped at the end of a rate hiking cycle. Powell’s testimony today says the Fed is contemplating that now, reaccelerating from 25 to 50 basis point increases.”

See: What’s next for stocks after Fed’s Powell triggers market-rattling rate jolt

Colas said he remains cautious on U.S. equities since the value of the S&P 500 index is still too high given the uncertainty around interest-rate policy and economic growth.

“The U.S. equity market’s tug of war between corporate earnings and interest rates continues,” Colas wrote. “Chair Powell’s Senate testimony reinforced the reality that we still don’t know where rates will peak out, how long they will be there, and what effect that will have on the U.S. or global economy.”

The forward 12-month price-to-earnings (P/E) ratio for the S&P 500 has increased to 17.5 from 16.7 since December 31, as the price of the index has increased while earnings-per-share (EPS) estimates for 2023 have decreased during this time, said FactSet’s senior earnings analyst John Butters, in a Friday report.

See: Powell says no decision has been made on potential size of rate hike in March

U.S. stocks ended mixed on Wednesday after Powell said on the second day of the testimony that the central bank has not made any decision on the size of a potential interest rate hike later this month despite strong labor market data and a rise in inflation in January. The Dow Jones Industrial Average

dropped 58 points, or 0.2%, to 32,798. The S&P 500

gained 0.1%, while the Nasdaq Composite

rose 0.4%.

Source: https://www.marketwatch.com/story/fed-may-stutter-step-at-end-of-interest-rate-hiking-cycle-for-first-time-since-1990-what-it-means-for-financial-markets-f3ba6ebe?siteid=yhoof2&yptr=yahoo