Weekly Update – “Pivot” Drumbeat
This past week we saw the drumbeat pick up for a monetary policy “pivot,” or at least a deceleration of the speed with which interest rates will be hiked. The Brazilian central bank paused, keeping its Selic rate at 13.75%. The central Bank of Canada surprised by hiking base rates below expectations, increasing 50 basis points (bps) instead of the expected 75bps, before communicating growth outlook concerns. Finally, while the European Central Bank (ECB) increased its Main Refinancing Operation Rate (MRO) by 75bps to 2%, in-line with expectations, this week’s press conference struck a dovish tone with more attention paid to the deteriorating growth outlook than in previous meetings.
Investors reacted to the press conference by adjusting their expectations for the December meeting to a reduced hike of 50bps. After reviewing the inflationary data released this week, we think investors are premature; European country level inflation releases were above forecast, with Spain the only outlier, falling and printing below forecasts. In the US, the Federal Reserve’s (Fed’s) preferred measure to gauge inflation, the US Personal Consumption Expenditure Core Price Index, increased from 4.9% to 5.1% this week, which was slightly below market consensus of 5.2%. However, from the activity data, the warning signs are now clear to us; the S&P Global composite Purchasing Managers’ Index (PMI) slumped to 47.1 for Europe and 47.3 for the US. In fact, after reviewing all activity data released this week from the US, we believe an overall weaker picture has been painted for consumer confidence, the housing market, and durable goods.
As the world has been dealing with a supply side shock (i.e., not enough fuel, labor, or goods), weaker activity data has been welcome news as we believe it should (with a lag) lead to lower inflation and encourage central banks to think twice about further extending their aggressive hiking cycles. Since it now seems to us that most investors agree that once interest rates have reached their peak, it is “time to buy,” this week the “pivot” drumbeat drove positive returns across both bond and equity markets. China was the one exception where we saw no “pivot” politically. At the closing of the 20th Communist Party Congress, the world was introduced to the new Politburo standing committee that will run China for the next 5 years. It was filled with loyalists to President Xi without a clear successor in sight. No immediate changes are expected for China’s COVID-19 policy nor any changes in course for its political intensions.
Chart of the Week – Market Pricing vs. Fed Projections
Source: Bloomberg, US Federal Reserve, as of 28th October 2022. ‘Dots’ refer to the summary of economic projections by the US Federal Reserve. Update every 3 months based on economic conditions. For illustrative purposes only.
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