Prepare For Liftoff

“Prepare for liftoff.”

That’ll be the message from the January Fed meeting and what’s sure to be an uncomfortable press conference for Jerome Powell, who’s under immense pressure to “do something” (anything, really) about inflation.

US equities will attempt a rebound after suffering their largest one-week decline since 2020 (figure below). The Nasdaq 100, meanwhile, is coming off its worst weekly performance since the onset of the pandemic.

“No edge here, but FOMC is obviously critical with regards to current concerns driving the financial conditions tightening tantrum, as ‘no surprise’ or no incrementally new ‘hawkishness’ could help dictate a Fed relief rally,” Nomura’s Charlie McElligott said, before striking a cautionary tone. “Due to the inflation issue [the] ‘Fed Put’ is now struck much lower, meaning no ‘dovish pivot’ unless things get much, much worse from the markets side.”

It’s possible (in fact, it’s probable) that the Fed is pleased with the situation thus far. After all, stocks were overdue for a pullback. Moreover, policymakers are likely to view severe declines in the most speculative assets as an unequivocally positive development. As noted here, Goldman’s basket of non-profitable tech shares is down almost 40% since the beginning of November. Bitcoin is down 50%. The other crypto “generals” more than that. Amazon is in a bear market. Netflix is down 42% from the highs. And Cathie Wood’s flagship fund extended its losses last week, and is now 55% below its February 2021 peak.

Arguably, the Fed would be perfectly fine with an additional ~10% haircut for US stocks more broadly. That would quell some (albeit not all) bubble calls without risking too much in the way of spillover to the economy via the financial conditions channel, with the caveat that a 15% decline in equity benchmarks doesn’t just happen in a vacuum. All else is never equal. Especially not when real rates are 50bps higher in the space of just four weeks.

Make no mistake, the risk of additional declines for stocks is elevated. Sentiment is poor, Powell is prone to communications missteps and in addition to the January FOMC meeting, the first read on Q4 GDP is on deck. That shouldn’t be a land mine, but this is a delicate juncture. Consensus is looking for 5.3% on the headline (figure below).

Any disappointment on the personal consumption side could deal another blow to confidence, even if it might allay some concerns about an overzealous Fed — at the margins, at least.

“A robust pace of growth last quarter has played a meaningful role in giving the Fed cover to pull forward an initial rate hike that not so long ago was anticipated to be a late-2022 event,” BMO’s Ian Lyngen and Ben Jeffery wrote. The problem is, monetary policy is now all but pot committed. The same “Fed Put” logic that applies to markets likely applies to the economy — unless and until inflation shows signs of abating, any weakness in the labor market or personal spending probably won’t compel a pivot.

This week also brings Q4 ECI, which will be closely watched for obvious reasons. Powell cited the index as one of the main factors in explaining the evolution of his own thinking around inflation risks. Economists expect a slight deceleration, but even an in-line print would be a record high if you don’t count Q3 2021 (figure below).

“The December employment report changed our perception of the recent wage growth trend,” Goldman wrote over the weekend. “Wage growth now appears to still be running at 5-6% overall and at 10% for the lowest-paid workers,” the bank remarked, noting that “even netting out productivity growth, [the] numbers aren’t consistent with the Fed’s 2% inflation goal.”

In addition to the ECI report, Friday also brings personal spending and income data for December. Normally, that would be stale given markets will already have Q4 GDP, but it’ll be relevant in the context of December’s lackluster read on retail sales, which suggested the US consumer is suddenly very tired (or just very tired of inflation).

Speaking of the consumer, the new week also brings the January vintage of the Conference Board’s survey as well as the final read on University of Michigan sentiment. Recall that the preliminary Michigan print was the second lowest in a decade, as Americans struggled against the highest inflation in a generation.

And that’s not the end of it. Also due: Home prices, new home sales, supply (2s, 5s and 7s) and jobless claims, which are now back on the radar after posting the biggest WoW increase since July.

“A likely hike at the March meeting has already been signaled by numerous Fed officials, including the Chairman in his recent confirmation hearing, so a ‘prepare for liftoff’ signal from the January meeting shouldn’t surprise anyone,” TD’s Jim O’Sullivan and Priya Misra said, in their Fed preview.

“More important for markets will be any guidance on the likely pace of tightening in the year/years ahead, via QT as well as the funds rate,” they added, before flatly noting that “We don’t expect a definitive message on either, unfortunately.” The result, they went on to warn, “could be mixed messages and/or overreaction in markets.”