9/22/23 – Fed as expected…..Equity market questions its valuation

The FOMC left the Fed Funds lending rate unchanged, as was widely expected, and hinted there could be one more rate hike later this year.  According to their interest rate graphic, the DOT plot, the committee anticipates another 0.25% rate hike later this year followed by a 0.50% rate cut in 2024.  However next year’s expectation is the median forecast with committee members’ expectations running from 4.5% to 5.75%.  The individual forecasts for 2025 are even more dispersed, ranging from 3.0% to 5.75%.  In short, “higher for longer!” At the post-meeting press conference Chairman Powell was upbeat on the current state of the economy which leads us to conclude that he has become one of the more hawkish committee members.

Neither bond nor equity traders liked the message, sending interest rates higher and stock prices lower.  The 2-year note has challenged the 5% level on several occasions this year only to reverse and trade back below.  This time the security closed decisively above 5% and hasn’t closed below it since.  On the afternoon of the Fed announcement, it traded as high as 5.17% before retracing some of its losses, closing the week at 5.10%.  Similarly, the 30-year bond pushed to a new high for the year, closing the week at 4.51% narrowing the 2-year/30-year yield curve inversion to 59 basis points.  As a point of reference, that spread was 117 basis points inverted just six months ago.

With the entire yield curve moving higher, the Bloomberg US aggregate total return index, the broad measure of the bond market, is now showing a negative return of more than 50 basis points year-to-date.  That’s entirely due to rising interest rates, as the average corporate spread to Treasury rates has generally remained stable.

Similarly, equity prices traded lower on the Fed’s decision.  The S&P 500 is closing the week just above the low touched earlier this summer, but still showing a gain of about 13% year-to-date.

Next week will bring new home sales, durable goods, and a host of secondary economic indicators.  In addition, members of the Federal Reserve will be speaking every day except Wednesday.