![]() ![]() While ditching forward guidance might be the right monetary policy strategy amidst these uncertain times, when there is no anchor for bond markets implied volatility will have a hard time coming down.Īnd a higher volatility in one of the biggest, most liquid markets in the world generally requires higher (not lower) risk premia everywhere else. Let’s assume the next inflation print is worse than expected in absolute terms, momentum and composition.Ī fully data-dependent Fed will have to consider a 100 bps hike in September: very likely to generate mayhem in markets all over again. Ditching forward guidance increases volatility in bond markets even further, and a volatile bond market is an enemy for risk assets. Slaying the inflation dragon is generally not done with baby steps, and that’s been true across different jurisdictions and historical circumstances.įor instance: last time inflation was stubbornly high in France, the Central Bank had to bring nominal yields (orange) all the way to 8% and keep them there for years to slow CPI down - way above my estimate of the prevailing neutral rate (blue) at 4.5%.Īssuming the Fed will be able to engineer significantly lower inflation while already taking the foot off the gas pedal seems very optimistic.Ģ. ![]() Source: The Macro Compass elaboration of Bloomberg data ![]() If the Fed is so data dependent and there is basically one data they care about, it all boils down to how inflation will evolve in the near future - and the bond market has a very, very strong opinion about that. You give markets the green light to freely design their probability distributions across all asset classes without any anchor - and that explains the gigantic risk rally. Powell: ‘‘The appropriate level of financial conditions will be reflected in the economy with a lag and it’s hard to predict. Powell, due to the recent bond and equity market rally financial conditions have eased quite a lot: what’s your take?’’ Powell: ‘‘Hard to predict rates 6 months from now. Powell, the bond market is pricing you to cut rates starting in early 2023 already: what are your comments?’’ So journalists went on and asked questions to find out something more about the ‘‘new’’ forward guidance. Until yesterday, you could be completely sure the Fed would have just pressed on the accelerator - inflation must come down: no space for nuances. It all boils down to how one single sentence Powell pronounced was able to affect the probability distributions investors were projecting for different asset classes.ĭoes it sound complicated? Bear with me: it’s not!īreak down the FOMC meeting, and in particular discuss why that ‘‘one single sentence’’ spurred such a crazy rally Īssess where this leaves us now: is the music changing? Hi all, and welcome back on The Macro Compass!ĭespite admitting that economic growth is clearly slowing down, the Fed just hiked by another 75 basis points and reiterated the path of least resistance from here is well represented by the Dot Plot: more hikes ahead - all the way to Fed Funds at 3.75%!Īnd yet, markets have staged a humongous rally led by the most valuation intensive and risk sentiment driven asset classes: Nasdaq and Crypto. Jerome Powell, July 2022 FOMC press conference ‘‘We are now at levels broadly in line with our estimates of neutral interest rates, and after front-loading our hiking cycle until now we will be much more data dependent going forward.’’
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