Jerome Powell finally confirmed what the market has been pricing in for weeks, that it’s time for the Fed to begin adjusting policy conditions. Announcing that "the time has come for policy to adjust", he added that "the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks." Whether Powell and the Fed can deliver on this is the big question. One of the big problems that has caused them to fall behind the curve again is their focus on data dependence. Taking that backward-looking view has resulted in them missing the turn in the labor market that hammered U.S. stocks a month ago as well as other signs that the economy is slowing. If they can focus on the outlook, there’s a chance that policy conditions can catch up to what’s happening in real-time, although they don’t have a strong history of being able to do that.
The Powell comments gave new life to small-caps and value stocks. Rate-sensitive sectors, including banks and REITs, also had a strong week. This environment is starting to look a whole lot like what we saw in early July. That’s when we saw the big rotation into small-caps and value stocks based on the belief that the Fed could be more aggressive in making rate cuts later this year. Now, Powell’s comments are lifting the veil of uncertainty around Fed policy later this year and we’re seeing a similar reaction in U.S. equities. I still don’t think we can ignore the fact that Treasuries and gold posted gains again this week, while utilities outperformed the S&P 500. Investors don’t seem to want to give up pushing stock prices higher, but at least they’re willing to spread their bets beyond just tech. However, the fact that many of the traditionally defensive asset classes continue to hold up strongly suggests that there is a level of risk-off behavior happening behind the scenes.
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