"Stock market rally incoming? Fed's May meeting could provide the answer"

 

As the Federal Reserve gears up for its 10th consecutive interest rate hike, markets are looking for any signal of a pause in rate hikes or a dovish stance from Chairman Jerome Powell. While investors are hoping for rate cuts this year, a portfolio manager suggests that it may take a black swan event to prompt the Fed to cut rates before 2024.

According to bond market pricing, the Fed is expected to pause rate hikes this month until November, when investors anticipate rate cuts to begin. However, the Fed is unlikely to concur with the bond market or admit to making a mistake by backtracking on rates. Inflation has been easing from its highest levels in 40 years but remains well above the central bank's 2% target.

Despite the possibility of a pause in rate hikes, caution is still warranted, as markets are displaying few signs of bearishness among investors. While a stock market rally could occur if Powell or the Fed's statement signals a pause in rate hikes, the macro picture suggests that it may be prudent to avoid adding too much risk to portfolios.

The yield curve inversion is warning that the US economy will enter an economic downturn in May, and markets are awaiting confirmation from the labor market. If the unemployment rate rises meaningfully above the Fed's forecast of 4.5%, markets could start seeing a Fed rate cut taking place sooner than the end of 2023.

Short of a black swan event, such as a surge in the unemployment rate to at least 7% or 8% or an explosion of a "true" banking crisis with financial contagion, it is unlikely that the Fed will have enough data to satisfy policymakers that they need to start cutting rates to support the economy.

In summary, while investors are hoping for rate cuts, it may take a significant event to prompt the Fed to take such action. In the meantime, caution is warranted in an environment where the macro picture is telling a different story than what the markets are suggesting.