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Fed Pivot and its importance for the stock market investors

Going by what the Fed’s actions have been in the recent past, a Fed pivot may appear to happen if inflation starts cooling down.

Fed Pivot and its importance for the stock market investors
Whenever the Fed Pivot happens, the markets are going to sense it much in advance and the key leading indicators will be the first ones to send the green signal to the market.

Investors around the world are tuned to incoming economic data that could give them a hint about the next move the US Fed makes on the interest rates. Now, that is what is referred to as Fed Pivot. Why, because the Fed at some point in time will have to pause rate hikes or even start cutting rates. When will the Federal Reserve pivots on monetary policy is something that the stock market is actively trying to predict.

And, when could such a Fed Pivot come and what could be the macro factors leading up to it? “2nd half of 2023 is when a Fed Pivot could be expected. Slower inflation, weak financial asset performance, the decline in business investment, continued affordability pressures for consumers, and a modest increase in unemployment are some factors that may lead to it,” says Jose Torres, Senior Economist at Interactive Brokers.

Whenever the current Fed liquidity tightening measures turn into an easing monetary environment, in market parlance it will be referred to as Fed Pivot. Pivot means the point on which something turns and takes a new route.

According to Hou Wey Fook, Chief Investment Officer, DBS Bank, “For a year that has been fraught with volatility, it appears that all hope for a recovery in financial assets remains pinned on the sole prospect of a ‘Fed pivot’ given softer economic conditions and the peaking of inflation expectations. In no other domain is this ‘pivot’ more explicit than in the Fed funds futures curve, where the markets are now pricing that rates will peak in May 2023, and—rather remarkably—enter a cutting cycle that will last all the way into 2024.”

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Currently, inflation is around 8% and the Fed target is under 2%. Fed, in all their commentaries, has been voicing a single plan of action – to bring down inflation by hiking rates. Going by what the Fed’s actions have been in the recent past, a Fed pivot may appear to happen if inflation starts cooling down.

And, when could the inflation appear to be cooling down? The answer may lie in the job market. Fed is making sure the employment sector gets hurt and there are fewer job openings. The rate hikes are steps in that direction. Until the job market begins to show weakness, the Federal Reserve won’t change course. As the money-in-hand of individuals reduces leading to a cut back in household expenditure and demand for goods and services, the inflation numbers may sense some relief.

The other key factor could be unstable financial stability. Central banks would likely alter their strategy and stop hiking (and potentially even cutting) rates if market volatility began to endanger the financial system.

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The recent incident involving Credit Suisse and the potential systemic danger it might represent was recently in the headlines. To protect UK pension funds, the Bank of England was also spotted buying bonds. Further, the Bank of England was also seen purchasing bonds to safeguard UK pension funds.

A Fed pivot will not only mean that inflation has been tamed but also will help asset values go up. The market was quickly pricing in the possibility of a dovish Fed flip as recession fears grew prior to the Jackson Hole Symposium in August. But, later the hawkish tone of the Fed kept the market on tenterhooks. Whenever the Fed Pivot happens, the markets are going to sense it much in advance and the key leading indicators will be the first ones to send the green signal to the market.

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First published on: 27-10-2022 at 18:32 IST