This "Markets Weekly" episode, dated August 29th, begins by noting a largely range-bound week for major equity indexes, with NVIDIA being a notable exception. The central focus is the recent Jackson Hole monetary policy conference, where Fed Chair Powell delivered a speech the speaker characterized as "extremely, extremely hawkish," despite some social media accounts deeming it a "nothing burger."
To provide context, the speaker recalls Powell's previous FOMC press conference, where he appeared hawkish but ultimately took no action. Powell's suggestion of changing the Fed's inflation target from PCE (Personal Consumption Expenditures) without achieving the existing 2% goal was seen as confidence-eroding, leading to market concern and a surge in the long bond. The speaker believes Powell took this feedback to heart and addressed it in his Jackson Hole speech.
The market's reaction to the Jackson Hole speech is presented as the "ultimate arbitrator" of its hawkishness. The 2-year Treasury yield, highly sensitive to Fed policy, surged 11 basis points, and SOFR/Fed fund futures now imply about two rate hikes in the coming year, definitively signaling a hawkish interpretation by the market.
The speaker then breaks down why the speech was perceived as hawkish:
1. **PCE Target Commitment:** Addressing concerns that the Fed might redefine its inflation goal, Powell "strongly committed" to the 2% PCE target, reassuring the market that the target would not be moved to avoid action.
2. **Monetary Policy Requires Action:** Powell acknowledged that monetary policy is "not self-executing." This directly countered criticisms that the Fed was merely "staring fiercely at inflation" without taking concrete steps, implying a need for actual rate hikes.
3. **Financial Conditions Not Restrictive:** Powell explicitly stated that current financial conditions (referencing credit spreads and loan growth) were "not really restrictive." This served as a "huge billboard" indicating his belief that the Fed has not yet done enough to slow economic activity and curb inflation.
4. **Dual Mandate Focus:** With the employment mandate effectively met (unemployment at 4.1%) and the inflation mandate clearly not, Powell's statements suggest that the Fed's primary concern and focus for action is inflation.
5. **Speed of Inflation Reduction:** A new element introduced was the importance of the *speed* at which inflation returns to target. Powell noted that modest progress over two years was insufficient, implying a greater sense of urgency to bring inflation down "in a timely fashion."
6. **Dismissal of Stable Inflation Expectations:** Powell directly rebutted the argument that stable inflation expectations offered comfort, noting they "can change very quickly," thus not justifying inaction.
Cumulatively, these points constitute "very, very strong hints that rate hikes are coming." While Powell avoids explicit forward guidance, the underlying principles he articulated point firmly towards tightening.
Despite the market's hawkish interpretation, the probability of a September hike remains 50-50. The speaker attributes this doubt to lingering skepticism about whether Powell will follow through or merely repeat past inaction, or if he is politically influenced. However, the speaker argues Powell *must* act to regain credibility after his previous performance and the current speech. The timing also favors September, avoiding October (pre-election) and making a December hike seem too delayed after such strong rhetoric. The speaker places the odds of a September hike at 90%.
The market's repricing hasn't been uniform; short-term interest rate traders understand the hawkish shift, but equity markets, and potentially other asset classes, may not have fully grasped the implications, suggesting potential for further repricing, as evidenced by gold's poor performance post-speech.
A significant counterpoint to the hawkish outlook is the "Presidential nuke" – the possibility of the President implementing a policy, such as an understanding with Iran to lower oil prices, which could lead to lower rates and a stock market rally. Given the President's low midterm polling numbers, particularly in battleground states affected by current tensions with Canada, such a "risk positive" political resolution could occur before the elections.
The speaker concludes by highlighting this "interesting setup" of impending restrictive monetary policy juxtaposed with potential presidential intervention. With the final week before Labor Day, increased market volatility is expected post-summer.