The Jerome shuffle. Which way will he twist, if at all?
The run-up to the Jackson Hole Symposium has been one in which
stocks have been selling, and the dollar surging. Expectations are high for a future market direction by the head of the Fed.
The global economy is currently enduring a toxic mix of high inflation and slowing growth. Internationally, central banks have raised interest rates, and governments have enacted fiscal measures to try to help mitigate the ensuing crisis. This is the first time since the pandemic and the Russian invasion of Ukraine that world bankers and financial decision makers meet face to face, usually the Jackson Hole symposium is not that keenly followed, but times have changed and the markets are seeking any hints as are traders and investors.
The Fed’s 45th annual economic symposium starts today, 25 August, for three days of debate on the important economic issues facing the US and countries around the world.
What we are waiting for is Jerome Powell's speech on Friday, expected about 2PM GMT but not set in stone.
Will Powell be dovish or hawkish in his tones, will he offer any direction?
He has told us that he will be watching inflationary data closely to determine how he will conduct future policy. The market awaits any hints to determine future investments.
What are the potential opportunities.
If Jerome Powell takes a hawkish stance this will disappoint the markets.
In simple terms if he talks gloom and doom and hints he will likely increase interest rates until inflation falls, the stock markets will fall and the USD will strengthen.
Changes in the federal funds rate will and has impacted the U.S. dollar, 40 year highs against other currencies in some cases.
Why will the USD Strengthen?
When the Federal Reserve increases the federal funds rate, it typically increases interest rates throughout the economy. The higher yields attract investment capital from investors abroad seeking higher returns on bonds and interest-rate products.
Global investors sell their investments denominated in their local currencies in exchange for U.S. dollar-denominated investments. The result is a stronger exchange rate in favour of the U.S. dollar.
In general, and under normal economic conditions, increases in the federal funds rate lead to higher rates for interest rate products throughout the U.S. The result is usually an appreciation of the U.S. dollar.
Increased demand for U.S. bonds as a safe-haven investment in times of turmoil can also strengthen the dollar.
Powell's Friday morning speech could cement the market tone until the next Federal Open Market Committee meeting next month.
"Caution and fear are the theme for the markets," said Steven Englander, head of global G10 FX research and North America macro strategy at Standard Chartered in New York.
"If Powell says something hawkish and if you buy equities or emerging market currencies, you'll lose 3% before you can blink your eye. So nobody is buying risk right now in the run-up to Jackson Hole."
Good time to short indices?
- Eric Freedman, chief investment officer, U.S. Bank Wealth and Institutional Asset Management. Says, “As the Fed tightens interest rates, we can expect a decline in economic growth.”
How Interest Rates Affect the U.S. Stock and Bond Markets
When interest rates rise, it makes it more expensive for companies to raise capital. They will have to pay higher interest rates on the bonds they issue, for example.
Making it more costly to raise capital could put a damper on future growth prospects as well as near-term earnings. The result could be a revision downward in profit expectations going forward as rates increase.
So in the initial reaction of a hint of hawkish rate hikes, expect the markets to drop sharply and fast.
If a company is seen as cutting back on its growth or is less profitable—either through higher debt expenses or less revenue—the estimated amount of future cash flows will drop. All else being equal, this will lower the price of the company's stock.
If enough companies experience declines in their stock prices, the whole market, or the key indexes many people equate with the market—the Dow Jones Industrial Average, S&P 500, etc.—will go down. With a lowered expectation in the growth and future cash flows of a company, investors will not get as much growth from stock price appreciation. This can make stock ownership less desirable. Furthermore, investing in equities can be viewed as too risky when compared to other investments.
Fed rate hike effect on gold & silver?
Interest rates are different for every nation, with varying impacts upon their economies and the price of gold in those countries.
Rates in the US have a greater influence than most and because gold is predominantly traded in US Dollars, its interest rates have a particular impact on the gold price.
It follows that when the US Federal Reserve hike interest rates, this can have a profound effect on the gold price.
A hike will usually make gold prices drop, while a decrease helps keep gold high. Silver lags behind the price of gold.
Interest Rate Impact on the price of oil
While views are mixed, interest rates have some correlation between the price of the USD and oil. Many factors affect the direction of both interest rates and oil prices.
Basically increasing interest rates raise consumers' and manufacturers' costs, which reduces the amount of time and money people spend driving and the demand for goods and services from factories etc, as the costs increase. Less potential demand will see oil futures react and fall to hawkish expectations.
To conclude three things will definitely happen, if the market interprets hawkish sentiment, all of the above will happen and you can expect strong USD, falling stock prices and indices, Gold will drop and oil will potentially see a drop too.
Conversely, the opposite will happen on dovish sentiment.
Or, nothing will happen and we all live for another day of trading opportunities, if he doesn't give too much away, expect continued volatility until at least the next FED meeting in September.