Recent comments from central banks in Europe and Japan have reminded everyone that markets are still very dependent on stimulus talk.
Last week, European Central Bank President Mario Draghi remarked that he doesn’t see a need for further rate decreases. Markets dropped.
On Tuesday night, the head of the Bank of Japan declined further stimulus measures, despite a poor economic outlook. Markets struggled.
The question now is, what signals will the Federal Open Market Committee send about its June meeting?
Conditions are still uncertain enough that no one expects the FOMC to make any significant changes in policy Wednesday.
Regardless: the risk for the markets are to the downside. Several issues concern traders:
1)The Fed will likely acknowledge that economic conditions have improved since the last meeting on January 27th. Uncertainty seemed to be the order of the day at that time. The Fed acknowledged “economic growth slowed late last year.” The Fed will likely modify that statement and acknowledge some kind of “modest” growth.
What a difference five or six weeks make. Two percent GDP growth for the first quarter — which the U.S. will likely get close to — is certainly not robust, but it’s also nowhere near a recession. Labor market growth has been strong. Equity markets have recovered almost all of their losses for 2016.
2) The market is clearly expecting the Fed to lower its interest rate forecasts. In mid-December, the talk was of four or more 25 basis point increases in the federal funds target rate in 2016. If there is no rate hike until June, participants will have to lower their forecasts Wednesday, by at least 25 basis points.
3) FOMC participants may revise the expectations for inflation higher, due to a rebound in commodity prices and higher core PCE price indices, currently at 1.7 percent.
All this points to risks for the market.
By the way, the legendary upward bias for stocks on FOMC meetings is still intact. According to Kensho, Fed Chair Janet Yellen’s eight press conferences since 2014 have seen the S&P 500 rise 75% of the time on the day of the policy statement, for an average gain of 0.6 percent.