When the Fed embraced higher inflation at its Jackson Hole Symposium in 2020, it took markets by surprise. It did so again this last week when it signaled a lift-off from zero rates in 2023 rather than 2024. How did this impact financial asset classes?
The hawkish Fed’s decision opened speculation for a more interesting Jackson Hole Symposium this coming August. The Fed announced that it started “thinking of thinking” of tapering, and rumours are that the Jackson Hole Symposium is the perfect occasion to announce the reduction in asset purchases.
Or maybe just another occasion for the Fed to prepare markets for a tapering announcement at the September meeting. In either case, the markets will try pricing in the new Fed, and some early signs are already visible.
Stronger Dollar As Inflation Exceeds Target
The typical reaction to rising inflation is to bet on the Fed’s turning hawkish and raise rates. That is bullish for the currency. But when inflation exceeds the Fed’s target consistently and is expected to keep rising, investors look for safety in the world’s reserve currency.
The US dollar did react sharply. The EUR/USD dropped from 1.21 to close to 1.18 in only a couple of days, for example.
Gold and Oil Diverge for Now
The precious metal dropped over $125 from its recent highs, as investors sold everything to buy the dollar. The bounces so far are meaningless, and the big question now is where will gold find the next level of support.
Oil, on the other hand, keeps rising. The WTI crude oil price traded above $73 recently and the bullish run continues. Demand for oil is expected to grow as countries lift their restrictions. At the same time, OPEC+ keeps production levels relatively low, expecting the outcome of the Iranian negotiations.
Equities remain overweight (i.e. bullish) on a medium-term horizon. Moderate valuations and a better outlook for earnings bode well for equities as the Fed, despite recent talks, remains accommodative for now, as it keeps buying $120 billion worth of assets each month.
All in all, a mild and mixed impact on major financial asset classes from the Fed’s communique last week. Future economic data, especially jobs data, is critical for recalibrating market expectations during the summer months.