Despite two positive trading days last week, equities responded to rising inflation and a Fed rate hike with another down week. The Fed finally announced their June rate hike.
Despite multiple statements by Fed Chairman Powell that 75 basis points was not being “actively considered,” the Fed did indeed raise the Fed Funds Rate by 75 basis points last week. The Fed is sending mixed signals to the market—if the goal is to prevent a recession (which has been publicly stated), then raising rates isn’t the answer right now. If fighting inflation is the goal—which can only really be accomplished by raising rates—then a recession is on the horizon.
Overall, the economic data was not good last week. Retail Sales, Building Permits, Housing Starts, NY & Philly Fed Manufacturing Indices were all lower month-over-month.
Despite a slight decline year-over-year and coming in May +0.8% as expected, the Producer Price Index does not appear to have helped consumer prices decline. The Consumer Price Index moved higher in May. Until the CPI reaches or exceeds PPI, inflation looks to continue its march higher. This is forcing consumers to shift their purchases. The cost of raw materials is up and now there is a shortage of diesel fuel and a shortage of “urea” used in diesel vehicles to offset emissions.
The Fed has been using multiple tools to help fight inflation—one of those tools being the overnight repurchase market. Banks and lending institutions trade in overnight repurchase agreements in order to meet short-term borrowing needs and to raise capital. During the 2008 Financial Crisis, that overnight market dried up, leading to the beginning of the crisis. The Fed has been actively participating in that overnight market by lending directly to those institutions in "reverse" repurchase agreements. Unfortunately, that tool has not slowed inflation and is likely causing a false sense of liquidity.
Now is the time for sound planning and clients should be reviewing their portfolios with their financial advisor. Clients should account for sufficient liquidity, but not at the sacrifice of a well-designed plan. It’s important to remember that bear markets have a shorter life span than bull markets. Investors who panic often sacrifice returns later.