Has Rates Hike Cycle Peaked By US Federal Reserve Or Surprise Awaits?

The US Federal Reserve in its latest monetary policy has kept key rates unchanged for the second time in a row. FOMC's chief Jerome Powell sounded optimistic about the economic activity, however, the committee still believes that tighter financial and credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation. FOMC targets to achieve an inflation rate of 2% in the long run. Nevertheless, the majority of experts believe that the rate hike cycle has peaked.

Last week, the US Fed kept rates at a 22-year high in the range of 5-1/4 to 5-1/2 per cent. FOMC pointed out that recent indicators suggest that economic activity expanded at a strong pace in the third quarter, while job gains have moderated since earlier in the year but remain strong, and the unemployment rate has remained low. However, it added, "tighter financial and credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation."

Accordingly, despite the US inflation rate remaining steady at 3.7% in September 2023, FOMC said, "inflation remains elevated." Hence, FOMC will continue to assess additional information and its implications for monetary policy. In determining the extent of additional policy firming that may be appropriate to return inflation to 2 per cent over time.

After the latest policy, Sameer Kaul, Managing Director & CEO, TrustPlutus Wealth (India) said, they believe that the message from the fed is that they are highly attentive to inflation risks and while job gains have moderated and economic activity remains strong, the extent of the effect of their past actions on financial conditions and its impact on the economy, hiring and inflation will determine the future direction of Fed policy. He added, "As we now, we are cautiously optimistic that the rate cycle seems to have peaked."

Also, Madhavi Arora, Lead Economist, Emkay Global Financial Services on The FOMC Meeting said, "As widely expected, the Fed unanimously kept rates on hold, retaining its guidance for potential "additional policy firming." However, the policy message is becoming "more two-sided." The statement did add that "financial" as well as credit conditions should weigh on the outlook, and in his presser, Chair Powell acknowledged the Fed is monitoring how long tighter conditions might persist. Owing to this, yields fell and stocks rose while USD weakened too. Powell also avowed that the Fed could afford to be more careful given how much policy has tightened already, but noted the debate going forward is whether the data would confirm that the current stance is sufficiently restrictive to sustainably return inflation to the Fed's 2% target. He thus left open the door for additional rate hikes even though he didn't defend the Sept Dot plot which implies one more hike in Dec. We continue to think that the Fed is done hiking."

Further, Arora added, "Powell sounded quite pleased with the effort to bring down inflation, where he saw "pretty significant progress." He sounded optimistic that fading pandemic distortions and rising labor supply (notably from immigration) could help this process-although Powell noted that he, like most of the FOMC, still believes some further softening of the labor market and slowing of growth will be necessary .While we continue to see Fed on hold in December and through the first half of next year, we think the UST bear steepening would find some solace as Fed's tone gets softer. However, the rising term premium will likely be the next structural driver of higher yields in coming years."

Meanwhile, in terms of market perspective, Dr. V K Vijayakumar, Chief Investment Strategist at Geojit Financial Services said, "The US Fed is most likely to hold rates in this meeting but the message from the Fed chief Powell will be hawkish since the economy is surprisingly resilient with a 4.9 % growth in Q3 GDP. The high bond yields in the US also indicate that the market expects the higher for longer rate regime to continue for some time. Since no surprise is expected from the Fed meeting outcome, the market is unlikely to be impacted. But the high bond yields will weigh on markets and FIIs can be expected to continue selling. The consequent weakness in sectors like financials where the FIIs hold a major segment of their holding will provide buying opportunities for long-term investors."

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