The hawkishness espoused by Chairman Powel last week was repeated on Wednesday and Thursday of this week as Central Bankers from the U.S., Europe, U.K., and Japan gathered in Sintra, Portugal to compare notes on inflation.  The remarks offered much more substance than the post-FOMC press conference and Powell’s testimony before Congress.

Surprisingly, Powell discussed quantitative tightening (QT), the other tool they’ve implemented to tighten monetary policy.  As a reminder, the Fed implements quantitative tightening by letting securities in its Open Market portfolio run off at maturity.  Prior to QT, the Fed would reinvest maturing proceeds in the open market.  Powell reminded listeners that about $1 trillion a year is being wound down and said the program is working as the Fed had expected and that they don’t anticipate adjusting it higher or lower.  Our interpretation is that it hasn’t caused an unexpected spike in interest rates, and, in fact, it’s rarely mentioned in the financial press.  For those interested, the Fed releases the details of the portfolio bi-weekly on Thursday evening.

In addition, he reaffirmed that the U.S. banking system is “strong and resilient,” but then muddied the water by saying that changes are needed to preserve small bank business models and that the Fed needed to learn lessons after the recent turmoil.  The latter comments seem to hint that the sector is not as strong and resilient as he and the Treasury Secretary have claimed.

Regarding inflation, he said he doesn’t see the U.S. getting back to 2% inflation until 2025 and with that forecast the FOMC is likely to raise the overnight rate with two more twenty-five basis point rate hikes.

From those comments, the yield curve moved higher, as expected, with 2-year and 5-year notes both about 13 basis points higher for the week.  Perplexingly, the equity market didn’t seem to care.  The S&P 500 is closing the week more than 2% higher than last Friday’s close.  One theory that was being discussed is that the 10-year note failing to make a new high is a buy signal for stock buyers.  We’re not buying it.  The more likely explanation is that companies have yet to see a significant dip in earnings, which has convinced sellers to cover their shorts.  As today is quarter-end we’ll know in a few weeks if that theory holds true.

Looking to next week, the minutes of the June 14th FOMC will be released on Wednesday but given Powell’s comments in Portugal we doubt that they’ll contain any additional information.  On Friday the employment report for June will be released.  The forecast is for 225,000 new jobs and a dip in the unemployment rate to 3.6%.  That comes after two consecutive months of big upside surprises.  We’ll be watching to see if the BLS will make it three in a row.

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