Evening Brief – 03.31.23

During COVID, the US government injected the market with virtually free money through stimulus and liquidity, and the economy was revived. But breaking that addiction has been difficult. The problem is the Fed wants 2% inflation and that has meant no more free money.

Interest rate hikes aren’t the only tools for restrictive policy. Tighter conditions can happen if banks are required to increase reserves from zero to any higher level. It also happens with tighter credit. The Fed has many tools, and the goal is to ensure smooth, sustained economic strength.

Narrowly avoiding a full-on banking crisis is too close for comfort. The Fed doesn’t want to further damage an arguably fragile economy and has hinted it is most likely near the end of its aggressive tightening cycle.

The latest possible evidence for the “no-more-hikes” camp came today from the Fed’s favorite inflation indicator – Core PCE Deflator. It was expected to remain ‘sticky’ at 4.7% instead it came in modestly lower at 4.6% from a year ago – its lowest since October 2021. Headline PCE fell to 5% – the lowest since September 2021.

Recall Tuesday’s Evening Brief: “Chairman Jerome Powell may be fighting the wrong foe, inflation, which is falling.”

With rates likely peaking soon, technology and discretionary stocks should further benefit; this is likely why they’ve been rallying for months now, while lower duration sectors like energy and utilities have been lagging after leading the market last year.

Meanwhile, the first quarter has been the best since 2020 for the stock market, and since 1980 the S&P 500 has posted gains in Q1 28 times. Only four of those times did the index post an annual decline that same year.

As the adage says, “so goes Q1 so goes the year,” which likely implies that the pain trade is still higher for now.