Morning Comment: The Fed is stuck between a rock and a hard place.

It was obviously another wild day yesterday…as the almost 3% decline in the S&P 500 index was completely erased by 3:00…and then it lost 40% of that bounce in the last hour of trading. The bounce looked like it was going to go right into the close of trading (like it did on Monday), but some negative news on the Ukraine issue took the momentum out of the gain.

This morning, the futures are trading quite a bit higher…on the better-than-expected results out of MSFT. (The stock initially fell about 5% after its earnings report in post-market trading, but it was able to bounce back strongly after their earnings conference call. This morning, it is now trading nearly 4% above where it closed at 4:00 yesterday.) MSFT was quite oversold by the close yesterday…as were stocks like AAPL, NVDA, AMD and other tech names. So this earnings report was just what the doctor ordered. We get AAPL’s numbers tomorrow night, so we’ll see if these earnings reports can be a catalyst for a bounce that lasts for more than just a few days.

Of course, between the earnings reports for MSFT and AAPL, we get the Fed’s announcement and Chairman Powell’s press conference (today…at 2:00 and 2:30 respectively). There have been some calls for the Fed to completely change their stance, but most people do not believe that anything like will happen. We certainly don’t. In fact, we don’t think there is a lot of room for the Chairman to be particularly dovish. Yes, there are two areas. There has been some talk around the Street that they will raise the Fed Funds rate by 50 basis points in March. There have also been predictions that the Fed would raise rates at every meeting this year (starting in March.) Therefore, he could signal that the initial rate hike would only be 25 basis points…and that the number of hikes will be “data dependent.” Now, whether that will be enough to calm the markets or not is yet to be seen, but the fact that the table has been set for a very hawkish day today…should help the Chairman avoid knocking the stuffing out of the markets.

Having said that, although the Chairman has made many calming remarks over the years, he has also knocked the market down from time to time. Back in October of 2018, his comment that interest rates were “a long way” from being “normalized” started the ball rolling for the 19% correction that took place during the 4th quarter of that year. Then, when the S&P 500 was down 12% (more than it is so far this year), the Fed raised short-term rates again. That turned a 12% correction into a 19% one…VERY quickly…………As we have been saying ad nauseam recently, it was not until they saw some serious stress in the credit markets…did the Fed “pivoted” away from their tightening policy. (We are not seeing much stress in the credit markets so far this time around.)

The issue that worries us the most, however, is that the Fed cannot flip-flop quickly on their new stance…because it would make them look foolish if they “pivoted” so quickly. No, we’re not just talking about “optics” of making such a big change so quickly…just because the stock market fell. The REAL reason they would look like the Keystone Kops if they flip-flopped immediately…is that the issue of inflation has not weakened at all. In other words, they would look like complete fools if they tried to declare, “Mission Accomplished” on the inflation front…and made a 180 degree turn in policy like they did in 2018 at pretty much any point in the coming months.

Don’t get us wrong, if we do see some serious stress in the credit markets/financial system, they will have no choice but to shift their policy dramatically. We also think that they will indeed have to end their tightening policy sooner than they’re saying right now…BUT that does not mean it will end any time in the next several months. Unless we see some serious stress in the system, they will keep tightening for quite some time in our opinion.

Back in 2018, the reason that they started tightening is because they wanted to “normalize” interest rates. Interest rates had been artificially low since the financial crisis…and they wanted to raise them back up to a more natural level to the underlying fundamental growth that existed at that time. (Based on what they said in the summer and fall of 2018, they also wanted to take some froth out of the market.) In other words, they wanted to take interest rates back up to the level that would be “normal” for the kind of growth that existed at the time.

THIS TIME, HOWEVER, they’re trying to do more than just “normalize” interest rates to get them in-line with the current level of economic growth. They’re ALSO fighting inflation. Thus, this is ANOTHER reason why the Fed will not be able to flip-flop as quickly as they did in 2018!.....In other words, there was no downside to the Fed flip-flopping back in late 2018/early-2019. This time there WILL be some serious downside repercussions…because inflation will become an even bigger problem than it already is right now if they cannot keep tightening!

This is a long-winded way of saying that the Fed is stuck between a rock and a hard place. Sure, anything can happen over the very-near-term, but we believe this situation means that the Fed will keep their tightening policy intact for a longer period of time than many investors believe right now. Yes, they will still likely have to abandon the move earlier than the most hawkish people have been saying recently….but we worry that it won’t come until many months pass…and until the stock market sees a much deeper pullback.

Matthew J. Maley

Chief Market Strategist

Miller Tabak + Co., LLC

Founder, The Maley Report

275 Grove St. Suite 2-400

Newton, MA 02466


Although the information contained in this report (not including disclosures contained herein) has been obtained from sources we believe to be reliable, the accuracy and completeness of such information and the opinions expressed herein cannot be guaranteed. This report is for informational purposes only and under no circumstances is it to be construed as an offer to sell, or a solicitation to buy, any security. Any recommendation contained in this report may not be appropriate for all investors. Trading options is not suitable for all investors and may involve risk of loss. Additional information is available upon request or by contacting us at Miller Tabak + Co., LLC, 200 Park Ave. Suite 1700, New York, NY 10166.

Posted to The Maley Report on Jan 26, 2022 — 8:01 AM
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