Fed delivers super-sized 0.75% interest rate hike in effort to cool inflation

June 15, 2022 | Market news

Key takeaways

  • The U.S. Federal Reserve (Fed) increased interest rates by 0.75% and indicated flexibility in future rate hikes depending on the path of inflation.
  • Fed Chairman Jerome Powell reiterated his view that high inflation necessitates aggressive action while emphasizing policy adaptability as conditions and data evolve.
  • Monetary policy and financial conditions have tightened as central banks across the globe hike rates, economic growth cools and investors demand cheaper prices on stocks and bonds.

The Federal Reserve (Fed) increased its target federal funds interest rate by 0.75% to a range of 1.50% to 1.75% following its regularly scheduled two-day meeting. Investors had expected a 0.50% rate hike until late Monday, when media reports indicated the Fed was considering a 0.75% hike after Friday’s hotter-than-expected data on the Consumer Price Index and University of Michigan Consumer Sentiment inflation expectations. The Fed typically changes policy rates in 0.25% increments, so today’s increase was larger than the Fed’s normal cadence and larger than expectations ahead of last Friday.

Fed Chairman Jerome Powell noted a 0.50% to 0.75% rate hike is likely at its next meeting, as indicated in their updated Summary of Economic Projections or “SEP” (a summary document of Fed members’ expectations), which indicate an additional 1.75% of rate hikes at the four remaining meetings this year. Rapidly increasing rate hike expectations drove steep bond yield increases (and large bond price declines) this year.

Powell began his press conference expressing confidence that “we have the tools we need and the resolve it takes” to tackle inflation and later acknowledged the difficult position the Fed is in with respect to meeting its objectives. The Fed aims to bring inflation down but can primarily only influence demand rather than addressing supply constraints, which represent the primary driver of higher prices. The Fed’s SEP indicates members expect notably slower growth this year and next year compared to their last projections released in March. The SEP also displays the jump in committee members’ rate hike expectations, showing the potential to reach 3.4% by year-end and 3.75% next year before eventually falling back to a long-run level of 2.5%. Bond market prices reflect a year-end rate of 3.5% and a peak rate around 3.9% in the first half of next year before anticipating rate cuts.

The Fed remains in the initial days of reducing its $8.5 trillion in Treasury and mortgage bond holdings. Previously, the Fed announced an allowance of $47.5 billion per month of bonds to mature starting in June, followed by $95 billion per month beginning in September, which could put some further upward pressure on bond yields this year, since investors will need to absorb the incremental supply.

Stocks added to gains today after the Fed’s communication, despite losses in recent trading sessions, expressing faith in Powell’s commitment to tame inflation while striving to avoid a “hard [economic] landing.” Minimal dispersion existed between large versus small and domestic versus foreign developed market stocks. Technology and growth-oriented stocks performed better than most other sectors. The 10-year Treasury bond currently yields 3.31% (the highest since 2011) with the two-year Treasury yielding 3.22% (the highest since 2007), both down today after rising rapidly year-to-date.

We retain a cautious and more defensive stance for diversified investment portfolios. Tighter global monetary policy, decelerating economic growth and strong but potentially deteriorating corporate and consumer health metrics remain key catalysts. We anticipate ongoing volatility in the near term and see opportunities in high quality bonds and global infrastructure investments relative to stocks right now. Within bond allocations, retaining high-quality bond exposure represents a critical portfolio component to manage portfolio risk.

As always, we value your trust and are here to help in any way we can. Please do not hesitate to let us know if we can help address your unique financial situation or be of assistance.

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Past performance is no guarantee of future results. All performance data, while obtained from sources deemed to be reliable, are not guaranteed for accuracy. Indexes shown are unmanaged and are not available for direct investment. The S&P 500 Index consists of 500 widely traded stocks that are considered to represent the performance of the U.S. stock market in general. The Consumer Price Index is a measure that examines the weighted average of prices of a basket of consumer goods and services, such as transportation, food and medical care. It is one of the most frequently used statistics for identifying periods of inflation or deflation.

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