Relief Rallies In Stocks And Bonds As The Fed Meets Investor Expectations

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(Wednesday Market Close) Stocks appeared a bit listless ahead of the Fed announcement as the S&P 500 (SPX) bounced between the positive and the negative. The 10-year Treasury yield (TNX) crept 27 basis points higher ahead of the announcement. However, it all flipped soon after the announcement with yields falling and stocks experiencing a big rally.

The FOMC announcement came in as expected with the Fed raising the overnight rate 50 basis points. This was the first half-point hike in more than two decades. The vote for the rate hike was unanimous, which means the more hawkish Fed members like St. Louis Fed President James Bullard didn’t hold out for a bigger hike. However, further rates hikes are expected, and the CME FedWatch Tool is discounting a 74% probability of another half-point hike in June.

The Fed is also sticking with its plans to start selling Treasuries and mortgage-backed securities from its balance sheet. The Fed plans to start selling $47.5 billion in the first three months beginning in June with the goal to ramp up to $95 billion per month.

The Fed’s statement was carefully scripted to not sound too hawkish or too dovish by leaving plans open-ended and pointing out that rate hikes often take time to take effect. The Fed was also positive about the economy but recognized potential risks in the supply chain, particularly with China’s pandemic lockdowns.

Powell Presser  

During his press conference, Fed chairman Powell started by addressing the American people to let them know that he and his associates at the Fed are aware of the pain that comes with inflation and that the Fed will work to bring it down. Throughout the press conference, Powell emphasized the strong economy and tight labor conditions that should help workers gain better paying jobs and potential raises.

In his opening statement, Powell said that the Fed could continue to use additional 50-basis-point hikes. He later clarified his statement by saying the committee isn’t currently considering larger hikes. Last month, Mr. Bullard suggested that the Fed should consider 75-basis-point hikes.

A particularly pointed question came when Powell was asked if he felt that the Fed had a trust problem because many analysts have expressed concern about the Fed being behind the curve on inflation and because Powell opened the presser addressing the American people. However, Powell said he felt the Fed had a good track record and was able to maintain trust.  

When it was all said and done, stocks rallied with the S&P 500 (SPX), Dow Jones Industrial Average ($DJI), and Nasdaq Composite ($COMP) rising 2.99%, 2.81%, and 3.19% on the day. The 10-year Treasury yield (TNX) ended the day by falling 43 basis points to close at 2.917%.

Commodity prices were rising ahead of the announcement and appeared unaffected by the news. Crude oil futures rose 5.2% higher on the day. However, natural gas futures saw some of the biggest gains, rising 6.45% to trade at 2008 levels. 

CHART OF THE DAY: POTENTIAL BOUNCE. The S&P 500 (SPX—candlesticks) fell below support three days ago but was able to rally back. Wednesday’s rally may be read as a support bounce by many technical analysts.Data Sources: ICE, S&P Dow Jones Indices. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

Flow of Funds  

Interest rate risk is one risk bond investors must account for because rising bond yields makes their old bonds worth less if sold before maturity. So, it’s not uncommon to see investors sell out of bond investments in anticipation of rising rates. Looking at the Estimated Long-Term Mutual Funds Flows from the Investment Company Institute® (ICI), investors had a net reduction in bonds investments in December 2021. Each month, the total amount of net outflows has increased.

Often, when investors move out of bonds, they go into stocks. However, the ICI data is also recording net outflows in stocks as well. This means investors appear to be using their investment funds elsewhere. As far as investable assets, real estate and commodity markets have performed well, which could suggest investors are employing capital in these markets. Investors could also be in cash. A worse scenario is that investors are having to sell long-term investments to pay bills.

When investors feel that the Fed is near the end of its rate-hiking cycle, they’ll likely start moving back into bond investments to take advantage of the higher yields.

Notable Calendar Items

May 5: Earnings from Shell (SHEL), ConocoPhillips (COP), and Anheuser Busch (BUD)

May 6: Employment situation report and earnings from Alibaba (BABA) and Cigna (CI)

May 9: Earnings from Duke Energy (DUK), Simon Property (SPG), BioNTech (BNTX), and Tyson Foods (TSN)

May 10: Earnings from Occidental (OXY), Suncor Energy (SU), and Sysco (SYY)

May 11: Consumer Price Index (CPI) and earnings from Toyota (TM), Walt Disney (DIS), and JD.com (JD)

TD Ameritrade® commentary for educational purposes only. Member SIPC.

Image sourced from Unsplash

This post contains sponsored advertising content. This content is for informational purposes only and not intended to be investing advice.